Bottom Line: What Does this Mean for Taxpayers?
Taxpayers need not do anything to receive this administrative relief. The IRS is automatically removing (abating) failure-to-file penalties for 2019 and 2020 returns. If a taxpayer paid the penalty and the account is full paid, the resulting overpayment will first be used to offset other liabilities and the balance will be refunded.
During the height of the pandemic, taxpayers experienced many obstacles to the timely filing of their 2019 and 2020 tax returns. Some taxpayers were affected by office closures throughout the country. Others had difficulty gathering or providing documents for accurate filings, were incapacitated by sickness, or relied on tax professionals who faced challenges in shifting to remote work. Many taxpayers were affected by reductions in Volunteer Income Tax Assistance (VITA) volunteers. Finally, some preparers were personally impacted by the COVID-19 virus and could not perform their duties timely. At the same time, the IRS was virtually unreachable by phone, while a backlog of unprocessed paper returns and correspondence that started in 2020 continued to grow. Many taxpayers, through no fault of their own, and sometimes even when they timely filed, were subject to late-filing penalties.
Failure-to-File penalty. A failure-to-file penalty (IRC § 6651(a)(1)) is charged on returns filed after the due date or extended due date, absent a reasonable cause for filing late. The penalty is generally calculated at five percent of the tax liability for each month the return is filed late, up to a maximum of 25 percent. For example, if you owe $10,000, the penalty is $500 per month, up to a maximum of $2,500. Beyond the failure-to-file penalty, there are additional penalties for failure to file information returns that fall under various IRC sections. Many taxpayers subject to failure-to-file penalties also receive penalties under IRC § 6651(a)(2) for failing to pay the tax due by the due date of the return. These are two distinct penalty categories.
These failure-to-file penalties generated additional account inquiries and requests for relief, which only further strained already-inadequate customer service resources and increased the paper correspondence awaiting processing. Because of the scale of the problem, the National Taxpayer Advocate, members of Congress, and tax practitioner groups called on the IRS to implement a comprehensive remedy, including reversing and removing penalties. To its credit, the IRS has acted and today announced a broad late-filing administrative penalty relief program. This program only applies to penalties for late filing and does not apply to penalties for failing to pay the tax due.
Which Returns Are Covered?
The administrative relief is for late-filing penalties for taxpayers’ 2019 and 2020 taxable years. If returns for both years were filed late, the IRS will provide late-filing penalty relief for both years. Business taxpayers with fiscal years will likewise be eligible for two years of relief for their fiscal years ending 2019 and 2020, respectively. Specifically, the following returns, if filed by September 30, 2022, will have penalties removed or not assessed:
- Federal income tax returns: most Form 1040 and 1120 series returns, Forms 1041, 1065, 1066, 990-T, and 990-PF
- International information returns (IIRs) attached to the above income tax returns and assessed a penalty at filing: Forms 5471, 5472, 3520, and 3520-A. Note, IIR penalties subsequently determined during an IRS examination are not included in this relief.
Filers of tax year 2019 information returns (other than IIRs) filed on or before August 3, 2020, will have any portion of an information return penalty that is the result of late filing abated. Information reporting penalties assessed for reasons other than lateness, such as incorrect information or non-compliance with e-file requirements, will not be waived. For tax year 2020 information returns (other than IIRs), the same relief applies to returns filed on or before August 2, 2021.
The relief program does not apply where the penalties result from fraud, or to any penalties incorporated into an accepted offer in compromise, an IRS closing agreement, or a judicial order. For a complete list of the affected tax returns and information returns, see IRS Notice 2022-36.
How and When Will the Penalty Relief be Implemented?
The IRS’s penalty relief program commences on August 25, 2022, and automatically provides late-filing penalty relief without the need for taxpayers to request the relief and will continue to be applied to returns received through September 30, 2022. Notices and refunds are being initiated now and many of the refunds will be completed by the end of September. Certain penalties abated manually, such as those associated with the late filing of Forms 3520 and 3520-A, will take somewhat longer to process.
If penalties have been assessed, they will be removed, and if a request for abatement was denied, it will now be automatically granted. If the abatement or removal of penalties generates a refund, it will first be applied to any outstanding liabilities and the balance will be paid by check and mailed to taxpayers’ current address in the IRS’s system. There is no option for direct deposit or debit card. In very rare circumstances, a small percentage of taxpayers will receive their refund via direct deposit, but the overwhelming majority of refunds will be distributed via check.
First Time Abatement and reasonable cause not impacted. This unprecedented program is conceptualized as broad administrative penalty relief and is designed specifically to meet the exigent circumstances of the pandemic. The relief does not fall into the category of either the First Time Abatement (FTA) or reasonable cause relief. FTA is an administrative waiver that provides otherwise-compliant taxpayers relief from penalties if certain criteria are met. The policy behind FTA is to reward taxpayers for having a clean compliance history, while recognizing that taxpayers occasionally make a mistake. The reasonable cause defense to the assertion of penalties, which is defined in the Internal Revenue Code, generally is based on the taxpayer’s facts and circumstances in determining if a taxpayer exercised ordinary business care and prudence.
The current penalty relief program will neither preclude taxpayers from receiving FTA for the next three years nor require justification, as would be the case with a request for reasonable cause. It is simply a favorable grant of administrative forbearance that the IRS is providing to benefit taxpayers and to address its own administrative burdens.
What Do Taxpayers Need To Do If They Have Not Filed Their Returns?
Taxpayers who have yet to file their 2019 and/or 2020 federal income tax returns should do so soon, and we highly recommend they make every effort to file electronically. Late-filing penalty relief for tax years 2019 and 2020 will only be applicable to tax returns filed no later than September 30, 2022. Taxpayers who have filed their tax returns don’t need to do anything else, as the relief will be provided automatically.
What Should Taxpayers Do If They Are Expecting a Refund?
Check your mailbox. Notice of the penalty removal and refund checks generated by the program will be mailed to taxpayers’ last known addresses. So, taxpayers who have moved since filing their latest tax return will be in danger of having their refund checks and notices go astray. To preclude this possibility, potentially affected taxpayers should lose no time in updating their mailing addresses with the IRS.
Joint filed returns. In the case of taxpayers who filed jointly in 2019 and/or 2020 but not in 2021, refund checks will be issued in the names of both taxpayers but will be mailed to the current address of the primary individual named on the return. This creates a situation in which taxpayers who have been divorced or separated in the interim may experience an unfair outcome. Divorced or separated couples finding themselves in this scenario should be aware that the refund will be issued solely to the taxpayer whose name is listed first on the return.
Benefit of an online account. Taxpayers seeking information about whether relief has been applied to their tax situations will find that the most effective way to get this information is to create an online account with IRS.gov and check their transcripts via that account. By accessing tax transcripts online, taxpayers can bypass long wait times on the IRS phone lines. I highly recommend taxpayers create an online account. With an online account taxpayers can check their account information including balance, payments, tax records, penalties, waivers, and more. It’s a simple and secure way to get information fast without having to pick up the phone and is a useful tool to obtain tax information throughout the year.
If you have questions. It is my understanding that the IRS will begin sending notices to taxpayers over the next three months and if you previously paid the penalty and your account is full paid, you will be receiving a check in the mail. I recommend taxpayers provide the IRS time to process the abatements and wait until after November 30, 2022, before contacting the IRS for assistance at (800) 829-1040.
This effort is unique, extremely broad, and taxpayer favorable. The IRS estimates that approximately 1.6 million refunds will be processed for a total of about $1.2 billion. Given the large scale of the program, it would be unreasonable to expect that the IRS will not encounter unanticipated speedbumps down the road, so taxpayers should be patient and understand the relief will be applied automatically. Taxpayers do not need to request the relief.
The IRS will mail the same notices it normally sends when it issues a refund or applies a refund to a taxpayer’s account. These notices will have standard boilerplate language and will not explain that they are being generated as part of the broad penalty relief program; rather, they will reflect the elimination of the penalty, furnish information regarding an offset, or provide the dollar amount of the refund.
Further, these notices will not be sent if a penalty has not yet been assessed, if it is part of an open installment agreement, or if the taxpayer’s account is in active collection status. In all three of these cases, taxpayers will receive relief, but will not receive any explanatory correspondence.
Because of this approach, taxpayers likely will have a range of questions regarding the late-filing penalties and the relief they are receiving. An almost-unavoidable consequence of the relief is that it will generate account inquiries, albeit likely not as many questions as if the penalties were pursued by the IRS. Further, the sheer number of refund checks that will need to be issued by the Bureau of the Fiscal Service means that some of these checks may take some time to arrive in the hands of taxpayers. This may well engender some impatience and confusion, likely prompting additional calls to already overwhelmed IRS phone lines.
Any resulting confusion can be greatly diminished by clear messaging and readily available self-help tools, such as press releases and other information on IRS.gov. Although not the advice taxpayers want to hear, I would recommend they remain patient and provide the IRS time to make the millions of adjustments necessary.
The IRS has taken a major step in providing broad, taxpayer-favorable relief from late-filing penalties for the 2019 and 2020 tax years, regardless of FTA and reasonable cause eligibility. Various complexities and complications – some already anticipated, others unexpected – undoubtedly will arise. The IRS, however, deserves substantial credit for its willingness to listen to Congress, stakeholders, and TAS, and to undertake a bold step requiring significant administrative effort and resources to benefit all taxpayers affected by the pandemic. It is important to note, however, that the program only applies to late filed returns and does not provide administrative relief for the late payment of tax.
TAS will continue to collaborate with taxpayers and the IRS as the broad penalty relief initiative is rolled out. We recommend that taxpayers and practitioners check their online accounts to determine when the abatement is implemented and keep an eye on their mailboxes. Taxpayers and practitioners should also remember it may take time for the IRS to implement the penalty relief for all taxpayers. Those that have already filed their 2019 and 2020 returns do not have to do anything to qualify. If you have not filed your 2019 or 2020 return, we highly recommend you file on or before September 30 and file electronically if possible to ensure quick processing of your return.
The VITA program offers tax preparation assistance during the regular filing season, but most VITA sites close after mid-April. To determine if a local VITA site is open, taxpayers can use the IRS’s locator tool. However, taxpayers who would normally rely on VITA to file their taxes may need to seek other avenues of assistance to meet the September 30 deadline.
Correction: The original version of this blog misstated the periods for which business taxpayers that operate on a fiscal year may qualify for late-filing penalty relief. The original version of the blog stated they qualify for fiscal years beginning in 2019 and 2020. In fact, penalty relief is available for fiscal years ending in 2019 and 2020.