Case — Interest Abatement

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TL Case Summ

THE QUESTION

When can interest on a tax underpayment be abated?

THE DISPUTE

Taxpayer Says: The IRS should honor an accepted Form 4549, Income Tax Examination Changes, which showed no interest due.

Internal Revenue Service Says: The letter to the taxpayer indicating Form 4549 was reviewed and accepted was an error. The taxpayer owes interest on prior year assessments from the date of the notice until the interest was paid.

THE LAW

From Internal Revenue Code Section 6404(e)(1)(A): Provides that the Commissioner may, at his discretion, abate the assessment of interest on any deficiency in tax attributable, in whole or in part, to any unreasonable error or delay by an IRS officer or employee in performing a “managerial” or “ministerial” act.

From Internal Revenue Code Section 6404(e)(1): To qualify for abatement of interest, the taxpayer must: (1) identify an error or delay by the IRS in performing a ministerial or managerial act; (2) establish a correlation between the error or delay by the IRS and a specific period for which interest should be abated; and (3) show the taxpayer would have paid his or her tax liability earlier but for such error or delay.

From Federal Tax Regulation 301.6404-2(b)(1): A “managerial act” is an administrative act which occurs during the processing of a taxpayer’s case and involves the temporary or permanent loss of records or the exercise of judgment or discretion relating to management of personnel.

From Federal Tax Regulation 301.6404-2(b)(2): “Ministerial acts” include procedural or mechanical actions not involving the exercise of judgment or discretion which occur during the processing of a taxpayer’s case after all prerequisite action has taken place.

From Harbaugh v. Commissioner, T.C. Memo. 2003-316: We have previously found that when the Commissioner misinforms taxpayers as to their total liability for a taxable period, such actions are “ministerial”.

THE CAUSE OF THE DISPUTE

In general, unless the IRS has made a mistake, there’s no provision in the Internal Revenue code to abate interest on underpayments of tax. Examples of IRS mistakes include the IRS losing your records, or when the IRS causes an unreasonable delay in transferring your audit to a location closer to you. Interest may also be abated in situations involving federally declared disaster areas. Reasonable cause is not an acceptable excuse for abatement of interest on underpayments.

If you receive a notice and believe the IRS made a mistake in assessing interest, you can request abatement by writing a letter or filing Form 843, Claim for Refund and Request for Abatement.

In this case, the taxpayer’s 2005 and 2006 individual income tax returns were audited in 2008. At the end of the audit, the IRS determined additional tax was due for each year. The taxpayer signed Form 4549, Income Tax Examination Changes, and paid the balance due.

Form 4549 showed “zero” in the columns indicating the amount of interest assessed for each of the two years.

Three months later, the IRS sent the taxpayer a notice stating the executed Form 4549 was “reviewed and accepted”. The notice also stated the IRS did not plan to make additional changes to the 2005 and 2006 tax years unless there were changes to a “partnership, S-corporation, trust, or estate tax return” in which the taxpayer had an interest.

Two months after the notice of acceptance, the IRS sent another notice that assessed interest on the 2005 and 2006 underpayments. The taxpayer responded with two letters disagreeing with the interest assessment because the IRS had already accepted Form 4549, which showed no interest.

A month after the taxpayer sent the second letter, he filed his 2008 federal income tax return, which reported an overpayment. The IRS applied the overpayment to the interest due. That action was followed by a response to the taxpayer’s initial letter. In the response, the IRS partially abated the interest assessed on the first notice.

The taxpayer wrote yet another letter requesting clarification and total abatement, to which the IRS responded by disallowing any abatement.

The taxpayer believes the IRS should abate all interest, and honor the “reviewed and accepted” Form 4549.

The IRS says the notice stating the executed Form 4549 was “reviewed and accepted” was a mistake, as was the later notice partially abating the interest. The IRS believes those errors did not rise to the level of “affirmative misconduct”, which would disallow the assessments.

In addition, though Form 4549 showed zero interest due, the revenue agent testified he routinely did not include interest on reports, though he expected it to be assessed by the service center. Finally, Form 4549 itself states the taxpayer consents to “additional interest as provided by law”.

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, 30KB)

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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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Split. The interest should be abated for the period from the date of the first notice until the interest was paid by applying the overpayment of tax on the 2008 return. However, the IRS can assess and collect interest for the 2005 and 2006 deficiencies.
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