IRS penalties have been consolidated into two groups: A uniform accuracy-related penalty and a fraud penalty.
1. Accuracy-related penalties are computed at 20% of underpayments attributable to any of the following:
A. Negligence or disregard of rules or regulations,
B. Substantial understatement of income tax,
C. Substantial valuation overstatement,
D. Substantial overstatement of pension liabilities.
2. Taxpayers who are hit with the 20% penalty for negligence or disregard of rules may try to establish reasonable cause for the underpayment and show that you acted in good faith. (TIP: there is no longer a presumption that failure to include amounts from W-2, 1099 or K-1 is negligent).
3. The IRS may impose the 20% penalty where there is a substantial understatement of tax. This exists when the understatement exceeds the greater of 10% of the tax required or $5,000 ($10,000 for regular “C” corporations). You may avoid this penalty by showing good faith or reasonable cause. (TIP: Avoid this penalty by providing substantial authority and disclosing relevant facts. Use and attach Form 8275 to your return. Feel free to call our office for a blank Form 8275).
4. The IRS may also assess the 20% penalty for substantial valuation overstatement of basis if the value of any property claimed is 200% or more of the correct basis (Beware: the penalty rate increases to 40% if you claim 400% or more of the correct amount).
5. The 20% accuracy-related penalty also applies to the substantial overstatement of pension liabilities if the actuarial determination is 200% or more of the correct amount. (The penalty is also doubled to 40% if the gross valuation is misstated by 400% or more).
6. The second group of accuracy-related penalty is for fraud. The fraud penalty is imposed at the whopping rate of 75% of any underpayment. If any portion is attributable to fraud, it is presumed that the entire underpayment is attributable to fraud. Of course, the burden of proof lies with the IRS.
7. There are also distinct and separate penalties for the underpayment of estimated tax. The penalty is equal to the interest that would accrue on the underpayment. There are very few instances when this type of penalty can be waived (forgiven) such as casualty, disaster, or if you are retired after the age of 62 or become disabled during the tax year.
(Fill in and attach Form 8210 to see if you meet various exceptions and thereby avoid this penalty).
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Victor Santos Sy graduated Cum Laude from UE with a BBA and from Indiana State University with an MBA. Vic worked with SyCip, Gorres, Velayo (SGV – Andersen Consulting) and Ernst & Young before establishing Sy Accountancy Corporation in Pasadena, California.
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He has 50 years of experience in defending taxpayers audited by the IRS, FTB, EDD, BOE and other governmental agencies. He is publishing a book on his expertise – “HOW TO AVOID OR SURVIVE IRS AUDITS.” Our readers may inquire about the book or email tax questions at email@example.com.