How To Avoid An IRS Underpayment Penalty For Your Tax Debt

How To Avoid An IRS Underpayment Penalty For Your Tax Debt

The Internal Revenue Service announced that interest rates on underpayments will remain the same at 5% for the calendar quarter beginning January 1, 2020. The rates will be:

  • 5% for overpayments (4% in the case of a corporation).
  • 2.5% for the portion of a corporate overpayment exceeding $10,000.
  • 7% for large corporate underpayments.

For taxpayers other than corporations, the overpayment and underpayment rate is the federal short-term rate plus 3 percentage points. This rate is determined by the IRS on a quarterly basis.

Individuals who pay their estimated taxes every quarter — including independent contractors and members of partnerships — are expected to make their fourth and final payment on Jan. 15.

The quarterly deadlines for the 2020 tax year are April 15, June 15, Sept. 15 and Jan. 15.

While employees have taxes withheld from their pay by their employer, people who run their own businesses and are not incorporated are responsible for paying self-employment taxes and income taxes four times a year.

To avoid an underpayment penalty from the IRS, you must pay at least 90% of the taxes owed for a given year — or 100% of the liability from the prior year.

If your adjusted gross income on the prior year’s return exceeded $150,000, you’re responsible for 110% of the tax liability. Failure to pay the appropriate estimated tax can result in underpayment penalties.

Omit These Tax Mistakes To Avoid IRS Penalties

Not All Tax Errors Are The Same

There is a considerable distinction between willful and non-willful tax foibles when it comes to consequences. Innocent mistakes are often forgiven, sometimes without the imposition of a penalty.  Non-willful errors are less perilous than willful mistakes, even though it might result in a severe penalty.  When things escalate to criminal proceedings, the difference between guilty or not, prison or freedom, is often negotiated by this distinction: willful or not.  Nevertheless, penalties in civil cases are bad enough – most cases are civil – and as far as the IRS is concerned, lousy intent might not be wrong at all.

Crypto

The IRS is working exceptionally hard to reign in non-compliant crypto traders.  They are investigating tax evaders and poor compliance equally.  The problem is that any interaction with the IRS routinely leads to penalties.  The IRS uses penalties indiscriminately – using threats encourage payments and in some instances pursuing penalties with a vengeance.

Offshore Accounts

Failure to report foreign accounts, albeit willful or non-willful, are penalized.  Penalties for non-willful violations are as high as $10,000 per account per year, but if the IRS decides your violation was willful, your punishment can go up as high as $100,000 per annum PLUS 50%  of the amount in the account – and this is for civil cases in respect of regular audits and even via the mail.

If the IRS deems what you did as willful, you have the option to revert to the IRS Appeals Division.  This is where the IRS and civilians most often settle disputes.  Sometimes, unfortunately, one of the parties is obstinate and refuses to budge. In terms of the law, willfulness is “a resolution to disobey the law, one which can be inferred by conduct.” Watch out for conduct that can be interpreted as intent to conceal.

This is dangerous terrain, and the IRS can infer willfulness whenever they deem it to be the case, and the agency often refers to Section 6672 of the tax code, which relates to payroll taxes.  Accordingly, every employer has to withhold taxes and promptly send it to the IRS – failing which, the IRS can collect it from officers, directors, and even check-signers – any “responsible person”  who willfully fails to pay the taxes.

In this context, the meaning of “willful” is very partial to the government. Anyone is willful if they “should have known” that there was a chance that withholding taxes are not being paid and they had the opportunity to find out if so. For the IRS, offshore accounts are no different.

Case Law Bedrosian vs US

Bedrosian opened two Swiss bank account in the 1970s.  He did not disclose this to his account before the 1990s. His accountant advised him to do nothing.  In 2007 a new accountant listed one of his accounts. Bedrosian then amended his tax returns and reported both accounts.

The IRS decided the violation was willful and penalized him with $975,789, 50% of the maximum value of the account. The court of the first instance decided that Bedrosian was at most negligent and that his omission was an unintentional oversight or a negligent act.

The 3rd Circuit Court of Appeals reversed this decision based on the IRS argument over the harsher willful standards from Section 6672, citing two relevant cases and then quoted the standard for reckless disregard from one. The case was remanded back to the District Court for the application of this new standard.

If we extrapolate the above, the government is using the signing of your return as an inherent disregard of your duty to report your foreign accounts. It has successfully argued the same in several court cases.  The courts decided that the taxpayer has constructive knowledge of the content of their tax returns and cannot claim ignorance.The IRS can always show willfulness when payroll taxes are unpaid.  The standard of “being in a position to find out” is very flimsy – so much so that it seems as if the government is seeking carte blanche when it comes to proving willful FBAR penalties.  According to the government in the Bedrosian case, when the taxpayer signed and filed his tax return without reviewing it, he ought to have known he was at significant risk of inaccuracy.

Uncertainty

No one knows how this will conclude. Some taxpayers will no doubt be confronted by IRS agents who understand their arguments and consequently opt for non-willful penalties.  As a taxpayer, be prepared to justify your mistakes.  If you don’t, you will end up in the web of willfulness the government is ever-expanding. Some experts are worried by what seems like an increase in the harshness of IRS penalties. It appears to be in the context of offshore accounts at the moment where the government can easily trace using the massive amounts of information it can access.

If the IRS continues down this path, we might end up with strict liability for all tax problems.  Until we know what the outcome will be, it is imperative for the taxpayer to take extra care and to involve tax professionals when any disputes arise. 

Click To Download Our Free Tax Guide: IRS Tax Relief Helpline

IRS Penalties for Filing Late or Not Paying Taxes

There are the two different penalties you may face if you file or pay late your taxes:

  1. Penalty for failure-to-pay usually 0.5% of the unpaid taxes for each month or part of a month that a return is late. This penalty will not exceed 25% of your unpaid taxes amount.
  2. If you file your return 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.
  3. If you don’t file your taxes by the due date April 15, you will generally have to pay a failure-to-file penalty of 5% of your unpaid taxes for each month or part of a month after the due date that the taxes are not paid. This penalty can be as much as 25% of your unpaid taxes.
  4. If you request an extension of time to file by the tax deadline and you paid at least 90% of your actual tax liability by the original due date, you will not face a failure-to-pay penalty if the remaining balance is paid by the extended due date.
  5. If both the failure-to-file penalty and the failure-to-pay penalty apply in any month, the 5% failure-to-file penalty is reduced by the failure-to-pay penalty. However, if you file your return 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.
  1. You will not have to pay a failure-to-file or failure-to-pay penalty if you can show that you failed to file or pay on time because of reasonable cause and not because of willful neglect.

Also note that if this is the first time you did not file on time and face penalties, you can apply for abatement.

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How Can I Get IRS to Waive Penalties and Interests

In theory, the law allows the IRS to waive penalties and interests in certain situations. In reality, however, the chances your case is one of them is quite slim.

Who Qualifies for a Waiver of Penalties and Interests

  • A US citizen who can prove that they were not in the country during the tax year they have incurred penalties and interests, and they had no means of accessing the changes made to the tax laws.
  • A person who has lost their spouse or a close relative. A death certificate must be provided.
  • A person above the age of 62.
  • A person who has recently retired.
  • A person who has had to move to a different place due to a natural disaster.
  • A person who lives below the poverty line for their family size.
  • A person who has been given bad tax advice in writing.

If you consider yourself a part of any of the above categories you may get the IRS to waive penalties and interests on your tax account if you have all the relevant and necessary documentation to prove it. However, it is crucial that you use reliable tax accountant who can give you the right advice and help you go through the process. It isn’t easy to be granted a waiver.

If this doesn’t work for you, you may also try to go one of these routes to relieve your tax debt:

It is common cause that the IRS will not initiate contact with you using the telephone.  However, they might show up at your door if you did not file any of your tax returns on time.  According to the IRS, they are targeting high-income taxpayers who are not timorously compliant through personal visitation!

The IRS will visit individuals who earned more than $100,000 during a tax year without filing a return.  According to the agency, those compliant and law-abiding taxpayers who work hard to do the ‘right’ thing and who always pay their due’s deserve to know that the IRS is aggressively pursuing those who don’t.

It is all about fairness, one IRS spokesman explains. We have to remind people of all walks of life to pay their taxes.  So we will visit high-income earners all across America.  We plan to inform these non compliant taxpayers how to sort out their tax affairs to avoid enormous problems down the road.

Your odds that the IRS will pursue you is all dependent on your income level.  If you made $10 million or more last year, your odds of being audited is 6.66%.  Audit rates declined for all income levels over the past few years. In 2017 the above income earners had a whopping 14.52% chance of an audit. The only group for whom audit rates rose, is the group for households who made between $50,000 and $75,000 per year.

A visit should be entirely unsurprising to these individuals, the IRS says. All the selected taxpayers had been contacted about their taxes multiple times over the past year without response.  What is more, the IRS will be out to surprise you: scheduling an appointment for this purpose is a contradiction in terms – the whole point is to share a sense of proactive urgency with the non compliant individuals.  We intend a personal visit to show the taxpayer just how dangerous his noncompliance is.  We hope a personal visit will bring them into compliance.  The revenue officers will share information during their visits and will endeavor to help bring the taxpayers into compliance.

The revenue officers will conduct interviews with the non compliant taxpayers, and advise them on the steps they need to take to become compliant.  In circumstances that require it, these officers will take the appropriate enforcement actions to collect outstanding taxes.

Revenue officers can provide two forms of identification. One, which is standard for all federal employees, is their HSPD-12 card.  The alternative is their pocket commission.  Both contain serial numbers and photographs. You are legally entitled to ask to see both.  You can also ask the revenue officer for additional verification if you wish.

The IRS scheduled 800 visits for the next two months. A lot more will follow during the remainder of 2020.

Readers should note that this article is only intended to convey general information on these issues and that FAS CPA & Consultants (FAS) in no way intends for the contents of this article to be construed as accounting, business, financial, investment, legal, tax, or other professional advice or services.  This article cannot serve as a substitute for such professional services or advice.  Any decision or action that may affect the reader’s business should not rely solely on the contents of this article, but should rather be consulted on with a qualified professional adviser. FAS shall not be responsible for any loss sustained by any person who relies on this presentation.  This article is subject to change at any time and for any reason.

If you are currently dealing with IRS debt, be sure to contact us and discuss which debt resolution option would be most beneficial for your present situation and future goals and opportunities.

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Fulton Abraham Sanchez, CPA

Fulton Abraham Sánchez, CPA I am Certified Public Accountant, specialized in Tax Planning & Offshore Strategies for Real Estate, Hedge/Equity Funds, Fintech, Crypto, Expats, IRS Debt Resolution. You can email me fa@fascpaconsultants.com and follow us on Facebook : FAS CPA & Consultants.

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