Making tax penalties less painful -- Page 2

Mental illness and substance problems can be grounds for abatement. Kassel says the IRS abated $50,000 to $75,000 in penalties for one of his clients after he brought the woman's psychiatrist into a conference.

"My client was on so many prescriptions for depression that it was amazing that she was able to walk or talk or do anything. It was obvious that she did have an extraordinary circumstance."

Reasonable cause applies to all of the most common penalties imposed on individual taxpayers. What are your odds of changing the IRS's mind?

"That's tough," Nath admits. "To quote 50-50 odds is doing pretty good in this business. It's an uphill battle, but the IRS is human and if they spot a good case, they are willing to grant relief. I've seen it many times."

The added cost of fighting penalties
The economics of penalty abatement tend to preclude using professional help. That's because tax lawyers like Nath and enrolled agents like Kassel who are federally licensed to practice before the IRS charge on average a minimum fee of $2,500 to $5,000.

Nath estimates you would have to owe in the neighborhood of $20,000 to $30,000 in penalties to be tempted to hire him. The process can take between 30 days and two years.

"That's if all you're dealing with is the penalties; oftentimes, the penalties are just one aspect of a total disaster arising out of a collection problem where they owe a million bucks and $20,000 is in penalties. So why would you bother with the penalties?"

Kassel says that's the main reason most tax professionals bill hourly on penalty cases, many of which may be resolved through an Offer in Compromise, in which the IRS agrees to accept less than the taxes due to clear the books (think Willie Nelson).

"It doesn't make sense to charge on a contingency basis because if you're going to take 20 percent of the difference, where are you going to come up with the money? Let's say you owe $100,000 and the IRS accepts a compromise of $5,000. Where is your client going to come up with 20 percent of $95,000 when all they could offer to the IRS was $5,000?"

The Offer in Compromise has become a popular way out of a jam for many taxpayers. Yes, you will still owe money; Kassel says the IRS settles on average at around 14 percent of tax due in these cases. But if the agency accepts your offer, both the penalty and interest are removed as long as you file spotless returns for five years.

Warning: Pursue an Offer in Compromise alone at your own risk.

"There are a lot of bad offers that are submitted, but there are also a lot of offers that, if they had been done right, could have succeeded," Kassel says. "Offers that are submitted by individuals without professional assistance have a much smaller chance of acceptance."

Other avenues of appeal
Pressing your case directly with the IRS may not be the best solution, but if you have the time and persistence to blaze your own trail, there are numerous avenues available to you where you may ultimately prevail.

Because most penalties are computer generated at your IRS service center, that's likely where you'll begin (other penalties typically arise from the audit process). Each service center has a taxpayer ombudsman who may save you some time. You can appeal a penalty at any time before, during or after it is imposed with the service center or a revenue agent in your local field office. Each of these options also has an Office of Appeals one step up the hierarchy that can abate penalties.

Still facing fines? Take the IRS to court. There are numerous judicial remedies available, including the U.S. Tax Court, U.S. District Court and the U.S. Court of Federal Claims. And while you can press ahead without counsel with these options, your chances of success increase significantly if you hire a specialist experienced in tax law.

"I always recommend that people try to get penalties relieved at the lowest possible level, which is at the service center," says Nath.

Jay MacDonald is a contributing editor based in Mississippi.