Case — Interest Abatement

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TL Case Summ

THE QUESTION

Was the IRS wrong in refusing to abate interest charged on an erroneous refund?

THE DISPUTE

Taxpayer Says: The IRS made the mistake in issuing the refund, and the interest should be abated.

Internal Revenue Service Says: The taxpayer’s error on his tax return caused the erroneous refund, and the interest should not be abated.

THE LAW

From Internal Revenue Code Section 6404(e)(1): The Commissioner has the authority to abate, in whole or in part, an assessment of interest on: (1) a deficiency if the accrual of such interest is attributable to an error or delay by an officer or employee of the Internal Revenue Service, acting in an official capacity, in performing a ministerial or managerial act; or (2) any payment of any tax described in section 6212(a) to the extent that any error or delay in such payment is attributable to such officer’s or employee’s being erroneous or dilatory in performing a ministerial or managerial act. An error or delay by the Commissioner can be taken into account only: (1) if it occurs after the Commissioner has contacted the taxpayer in writing with respect to the deficiency or payment of tax; and (2) if no significant aspect of the error or delay is attributable to the taxpayer.

From Internal Revenue Code Section 6404(e)(2): The Commissioner must abate the assessment of interest on an erroneous refund of $50,000 or less unless the erroneous refund was caused by the taxpayer.

From Internal Revenue Code Section 6404(h): This Court may order an abatement of interest only if we conclude that the Commissioner abused his discretion in failing to do so.

From Rule 142(a): In order to demonstrate an abuse of discretion, a taxpayer must prove that the Commissioner exercised his discretion arbitrarily, capriciously, or without sound basis in fact or law.

THE CAUSE OF THE DISPUTE

If you get a tax refund you’re not expecting due to IRS error or your own, the notice you eventually receive requesting repayment will include interest and penalties. While the penalties may be reduced or abated if you can show reasonable cause, the IRS is only authorized to remove the interest charged when the error is their fault, either by mistake or delay in performing an action that’s procedural or managerial in nature. In effect, you received a loan from the government, and when they ask for it back, they’re entitled to interest, unless making the loan in the first place was their fault.

In this case, the taxpayer made an estimated tax payment of $4,000. When preparing his tax return, he included the payment on the line for withholding taxes, along with other withholding amounts, instead of on the line for estimated taxes. He included a brief note indicating the estimated payment, and filed the return showing a refund of $857.

The IRS processed the return, and issued a refund that included an additional $4,000, which the taxpayer kept.

Fifteen months later, the IRS sent a notice requesting repayment of the erroneous refund, and applied interest and penalties. The taxpayer agreed he owed the $4,000, and submitted a check, along with the required form requesting abatement of the interest and penalties. The IRS took off the penalties, but refused to abate the interest.

The taxpayer admits he reported the estimated payment on the wrong line, but says that because he did report it, and also included a note regarding the amount, the refund error was the fault of the IRS, and the interest should be abated.

The IRS says the tax information shown on the return was incorrect or incomplete, and the taxpayer’s mistake was a contributing factor in the issuance of the refund. Therefore, the interest should not be abated.

WHAT WOULD YOU DECIDE?

Make your selection, then see “The Court’s Decision” below for a full explanation

For the or for the

THE COURT’S DECISION

Download (PDF, 38KB)

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HL Carpenter, an experienced investor and a CPA, specializes in reader friendly articles on taxes and investing for individuals and small businesses, and publishes two newsletters: Taxing Lessons and Top Drawer Ink. Visit TaxingLessons.com and HLCarpenter.com.

This information should not be considered legal, investment or tax advice. Taxing Lessons and Top Drawer Ink Corp. do not provide legal, investment or tax advice. Always consult your legal, investment and/or tax advisor regarding your personal situation.

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Sorry, wrong answer :(
Right answer!
For the IRS. In the letter denying the taxpayer’s request to abate the interest on the excess refund, the IRS explained that, because an error on the return contributed to the issuance of the refund, the taxpayer did not qualify for interest abatement. We cannot conclude that it was an abuse of discretion for the IRS to decline to abate interest because of the taxpayer’s mistake on his Form 1040. That determination is consistent with the limitations regarding taxpayer fault in both section 6404(e)(1) and (2).
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