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TAX PENALTIES – Help for Calculations ARE 90% OF 4 MILLION IRS PAYROLL
PENALTIES WRONG? Penalty Relief Under RRA 98 The federal tax deposit penalty is one of the most common penalties assessed by the IRS. This year IRS will issue more than 3.8 million deposit penalty notices. Nearly 90% of these notices are overstated by the IRS. Historically, the IRS has computed penalties in a way that often results in the highest penalty. For example, assume a taxpayer had a deposit due in January, February and March. If the taxpayer missed the January deposit, one might think that there would be a single penalty for January. The IRS computation method, however, uses the February deposit to pay January, and the March deposit to pay February. Instead of one penalty, you get three. The IRS Restructuring and Reform Act (RRA 98) provided specific relief for this problem by giving taxpayers the ability to specifically designate how deposits are applied. But taxpayers must act quickly, since they generally have only 90 days from the date of a penalty notice to request relief. BACKGROUND Under Section 6656 of the Code, a taxpayer is subject to a penalty for any failure to make a deposit on the date prescribed therefore. The penalty is 2% if the deposits is one to five days late, 5% if the deposit is six to 15 days late, and 10% if more than 15 days late. The penalty can increase to 15% if the amount is not paid within 10 days of notice and demand. The tax deposit penalty is extremely common. With about 5,000,000 employers in the country, the IRS sends out 3.8 million penalties each year. Since some taxpayers get a penalty each quarter and others never get a penalty these statistics do not tell us how many taxpayers get a penalty notice each year. Nevertheless, it appears that close to half of all employers receive a penalty each year. HOW ARE PENALTIES COMPUTED?The amount of the deposit penalty depends on the lateness of the deposit. The 2% - 5% - 10% tiered structure bears no relationship whatsoever to any reasonable time-value of money concept. For example, if a taxpayer is 14 days late and waits an additional day, the penalty does not increase. The equivalent interest charge for that additional day would be 0%. If the taxpayer waits one more day, the penalty goes from 5% to 10%; this is an equivalent interest charge for that single day of 1825%! Once the IRS has accumulated the liability and deposit information, it allocates deposits against liabilities and computes penalties. This matching takes place six to 10 weeks after the close of the quarter.
Under the FIFO rule, when a deposit comes in, that deposit is used to pay the oldest outstanding liability. If a taxpayer misses or underpays a specific liability amount, the IRS uses the next available deposit to pay off that liability. When the IRS applies deposits this way, the result is a cascading series of penalties. Penalty relief in RRA 98 gives taxpayers a self-held remedy to avoid the application of the FIFO rule. In brief the new rules gives taxpayers 90 days from the date of a penalty notice to designate how to apply their deposits. In addition to the new deposit designation provisions, RRA 98 provides relief for taxpayers who switch from monthly to semi-weekly status. Although designation sounds simple, with more than three or four liabilities and deposits, it quickly becomes almost impossible to test all the deposit alternatives. Even in relatively simple cases, the number of potential designation strategies can run into the millions. Moreover, the 98% rules seriously complicates the question of how to allocate deposits. Taxpayers clearly need a computer-based, automated method to determine the best designation of deposits.
AN ONLINE ALTERNATIVE A new web site – www.taxpenalty.com, provides a free service to help you determine if you will benefit from a designation of deposits. With TaxPenalty.com you enter the quarter liabilities and deposits. Then, the site used a computer model to run through a series of designation strategies. If a better designation is found, TaxPenalty.com provides comprehensive reports on how to designate deposits. The reports can be used for the taxpayer’s records and for the IRS. The calculation is free, and the comprehensive reports are also free unless you save more than $250.
CURRENT RESULTS www.taxpenalty.com currently computes lower penalties in 91% of the cases and the average penalty reduction is 42%. Over the past year, TaxPenalty.com has reduced more than 2,000 IRS payroll penalties and saved taxpayers more than 2.5 millions dollars
CONCLUSION During consideration of RRA 98, the IRS was subject to the most intense criticism in its history. If the IRS is serious about improving its relationship with taxpayers, it would be well served to follow the Supreme Court’s mandate to “administer the law in a way that imposes a penalty only when the words of the statue clearly impose it.” In this case, the Court’s admonition means that most liberal policies of deposit designation and penalty abatement. |
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