BusinessWise: What you need to know about IRS penalty notices

Question: I received an IRS notice stating that I made an error in my estimated tax payments. What do you recommend I do?

A: With the tax deadline in our rear-view mirrors, many people have long since filed and forgotten about their 2021 tax returns. For some, taxes will barely be on the radar again until the new year. But for an unfortunate group, you could receive an abrupt reminder of this tedious task unexpectedly in the form of an IRS penalty notice.

There are several types of IRS penalties. We have summarized a few of the most common penalties we see, as well as information on how you might seek relief:

Estimated tax miscalculation

It is possible, but unlikely, to obtain relief from estimated tax penalties on grounds of casualty, disaster or other unusual circumstances. You are more likely to get these penalties abated if you can prove that the IRS made an error, such as crediting a payment to the wrong tax period, or that calculating the penalty using a different method (such as the annualized income installment method) would reduce or eliminate the penalty. In these situations, it may be a good idea to consult with a tax professional before proceeding.

Failure-to-file and failure-to-pay

The IRS will consider any reason that establishes that you were unable to meet your federal tax filing obligations despite using “all ordinary business care and prudence” to do so. Frequently cited reasons include fire, casualty, natural disaster or other disturbances. The agency may also accept death, serious illness, incapacitation or unavoidable absence of the taxpayer or an immediate family member.

However, if you do not have a good reason for filing or paying late, you may be able to apply for a first-time penalty abatement (FTA) waiver. To qualify for relief, you must have: 1) received no penalties (other than estimated tax penalties) for the three tax years preceding the tax year in which you received a penalty, 2) filed all required returns or filed a valid extension of time to file, and 3) paid, or arranged to pay, any tax due.

Generally, this is usually the simplest error to avoid. We always encourage people to ensure their tax returns are filed and paid by the appropriate deadline.

To help struggling taxpayers affected by the COVID-19 pandemic, the Internal Revenue Service has provided relief to most people and businesses who filed certain 2019 or 2020 returns late. If you incurred a penalty for late filing for the 2019 or 2020 return, the IRS has automatically rebated the penalties. If you incurred a penalty and did not receive a rebate you should consult with your tax advisor about how to obtain your refund.

Tax-filing inaccuracy

These penalties may be imposed if the IRS finds that your return was prepared negligently or that there is a substantial understatement of tax. You can obtain relief from these penalties if you can demonstrate that you properly disclosed your tax position in your return and that you had a reasonable basis for taking that position.

Generally, you have a reasonable basis if your chances of withstanding an IRS challenge are greater than 50%. Again, reliance on a competent tax professional will greatly improve your odds of obtaining penalty relief. Other possible grounds for relief include computational errors and reliance on an inaccurate W-2, 1099 or other information statement.

We urge all our readers to take any penalty notices from the IRS seriously. Mistakes can happen on both ends of the tax filing process, and swift action should be taken in these instances to mitigate as much as possible any ensuing penalties. Tax professionals can be invaluable in these situations, and we would highly recommend a consultation.

Crystal Faulkner is a Cincinnati market leader with MCM CPAs & Advisors, a CPA and advisory firm. Tom Cooney is with Wealth Dimensions, an investment advisory firm. For additional information, call 513-768-6796 or visit mcmcpa.com. Listen to Tom and Crystal daily on WMKV and WLHS on “BusinessWise,” a morning and afternoon radio show that profiles highly successful people, companies, organizations and issues throughout our region.

This article originally appeared on Cincinnati Enquirer: BusinessWise: What should I do about an IRS penalty notice?