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Making tax penalties less painful

Next to death and taxes, penalties and interest related to those annual April 15 duties rank right up there on the list of life's ironclad, and unwelcome, certainties.

Just as surely as the Internal Revenue Service taketh away a portion of our daily bread for the public good, it smiteth those of us who fail to file, file late, fail to pay estimated or owed taxes or otherwise neglect our responsibilities as taxpayers.

More than 18 million civil penalties were assessed on individual taxpayers in 2002, with a minuscule 126,192 dismissed for reasonable cause. Not great odds. But with extenuating circumstances -- or reasonable cause as the IRS defines it -- on your side, appealing a tax penalty is far from futile.

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"What we have found is, if it's a one-time thing and you haven't had problems in the past, the IRS is pretty good about abating penalties," says Steve Kassel, a former IRS agent who now practices as an enrolled agent in San Bruno, Calif.

You can even get relief from the interest portion in those rare instances when the IRS made the error, according to Robert Nath, a Washington, D.C., tax attorney and author of "The Unofficial Guide to Dealing with the IRS."

"The statute says interest may be excused in the case of ministerial or managerial error. Ministerial means they lost the file, it fell through the cracks. Managerial means we delayed your case for some good reason on our part and you shouldn't have to bear the burden," says Nath. "Now having said that, getting the IRS to admit to something like that is almost impossible."

Effective appeal of a penalty takes time, persistence and a pretty great excuse for running afoul of the tax code. And unlike a court case, you are guilty until you prove yourself innocent. What's more, it may not be worth the money to hire a tax professional to plead your case.

"You may end up spending as much money getting it abated" as you would to pay the penalty, says Kassel.

Here's what you need to know about penalties to decide if you have a fighting chance against the IRS.

The purpose of the penalties
Tax penalties are designed for one purpose: to encourage voluntary compliance.

As the ways in which tax shirkers wiggle out of compliance have multiplied, so too has the number of penalties. Today there are more than 150 different penalties, ranging from one-half percent per month for paying your tax bill late to a whopping 75 percent for tax fraud.

It's not uncommon to receive multiple penalties. If you did not file on time and owe tax, for instance, you could be hit with late filing and failure to pay penalties that together would total 5 percent (4.5 percent for late filing plus a 0.5 percent late payment charge) for each month that your return was late, up to 25 percent.

Contrary to public belief, the IRS does have a heart where penalties are concerned. Built into its agent handbook are guidelines for determining reasonable cause that might warrant abating a penalty. They include such things as:

  • A mistake made despite ordinary business care and prudence
  • Forgetfulness
  • Ignorance of the law
  • Death, serious illness or unavoidable absence
  • Inability to obtain records
  • Inability to obtain tax forms
  • Return was filed at the wrong IRS office
  • Followed advice from a tax adviser
  • Followed oral advice from the IRS
  • IRS error

These are reasonable cause areas as defined by the IRS, not automatic loopholes out of a tax penalty. If your reason falls into one of these categories, you may be able to convince the IRS to let you off; if it doesn't, you are out of luck.

Good and bad excuses
Some of these reasons clearly won't fly, with or without a convincing argument. For example, despite the complexities of tax forms today, it would be tough to plead ignorance of the law for a late-filing penalty. What part of April 15 didn't you understand?

Other causes, such as death, serious illness or unavoidable absence, tend to be more compelling.

"There are some heart-wrenching stories that people can tell. Things can get pretty overwhelming," says Nath. "When your child just got diagnosed with cancer, you don't turn around and say, 'OK, that's nice, but I need to file this tax return.'"

-- Posted: March 31, 2004



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