What To Do About the IRS Negligence Penalty
If you’re in an audit or got an IRS CP2000 notice, you may also get a penalty if the IRS changes your tax return and says that you owe more taxes. This penalty is called an accuracy penalty.
There are two types of accuracy penalties that many people see in audits and CP2000 notices:
- Negligence penalty
- Substantial understatement penalty
The negligence penalty is 20% of the amount you underpaid
This is a steep penalty, and the IRS usually charges it (or, “assesses” it) when taxpayers overstate their deductions or don’t report all their income. Negligence is defined under the law as any failure to make a reasonable attempt to comply with the tax laws. The IRS may impose the negligence penalty if it decides that a taxpayer’s negligence or disregard of the rules or regulations caused an underpayment of taxes.
The IRS charges this penalty on a case-by-case basis, depending on the specific changes the IRS is making to your return.
The IRS is likely to assess a negligence penalty if:
- Your tax return didn’t include income from an information statement, like Form 1099-MISC.
- You didn’t make a reasonable attempt to confirm whether you were entitled to claim a deduction, credit, or exclusion on your return – one that a reasonable person would think was “too good to be true” under the circumstances.
- You’re under audit and you don’t have records to support your tax return items.
It’s best to contest the penalty before the IRS officially assesses it
It’s a good idea to argue against a negligence penalty after the IRS proposes the penalty, but before the IRS assesses it. If you wait for the IRS to officially assess the penalty and send you a Statutory Notice of Deficiency (usually a Letter 3219), your only option is to take your case to U.S. Tax Court.
To request “penalty nonassertion,” you’ll need to respond to the IRS and make your case.
- With CP2000 notices, contest the penalty in your first response to the CP2000.
- In an audit, protest the penalty while dealing with the IRS auditor. You can also appeal IRS penalties proposed in an audit with the IRS Office of Appeals. But you’ll still have to do that before the IRS officially assesses the penalty.
Show that you tried to comply
With negligence penalties, you can’t ask for first-time penalty abatement. The decision on whether a negligence penalty applies lies in your honest and reasonable attempt to comply and file an accurate return.
You’ll have to show that you made a reasonable attempt to comply with the law, but because of unforeseen circumstances, you couldn’t comply.
Some factors in your defense might be:
- You relied on an incorrect information statement, such as Form W-2, 1099, K-1, etc.
- You relied on incorrect information in good faith (for example, an incorrect adjusted basis of stock shown on a brokerage statement).
- You reasonably relied on a competent tax professional or other third-party advice.
- You relied on advice from the IRS.
- You have legal authority that supports the tax treatment (and the tax position is adequately disclosed, if applicable).
- You were ignorant of or honestly misunderstood the law or a fact.
- You made an isolated computational or transcriptional error.
When you argue the penalty, include as many details as possible and provide all the factors that apply to your situation. Learn more about how to handle IRS penalties.
How to get help
An experienced tax professional can also provide a lot of value in this process, especially when it comes to referencing the applicable tax law and/or court cases in support of your argument. Your tax pro can also request nonassertion of the negligence penalty from the IRS for you.
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