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IRS and Courts Often Differ on Tax Penalties

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Sep 26th 2016
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The law authorizes the IRS to assess stiff, nondeductible penalties against individuals who miss the deadlines for filing returns. Generally, the penalty is 5 percent of the balance due (after subtracting taxes previously paid through withholding and estimated payments) for each month that the return is late, up to a maximum of 25 percent.

But whether the courts will sustain penalty assessments depends on the particular circumstances. A case in point: Tax protester Lawrence P. McCormick of Brooklyn, New York, wrote the words “under protest” beneath his signature on his return and filed it on the April 15 due date.

An aggrieved agency thought the right response was to treat his 1040 as incomplete and assess penalties for a frivolous filing and a late return, a contention that got nowhere with District Court Judge Jack B. Weinstein; he squelched both penalties as unconstitutional exercises of administrative authority.

“A taxpayer need not suffer in silent acquiescence to a perceived injustice,” reasoned the judge, who noted that Lawrence’s addition of the two words of protest caused no change in the meaning of anything on his 1040. Hence, he timely filed a complete return. All that Lawrence did was to “properly exercise his First Amendment right to protest.” A protest is “an expression of grievance, seeking redress that the IRS may not throttle or mute by threats of penalties.”

William J. Morgan deleted the words “under penalties of perjury” from the signature block on his 1040 and then signed it. The Tax Court: Alteration of the return means it’s treated as unsigned and not valid. William had to pay failure-to-file and negligence penalties as if no return had been filed at all.

James A. Farley and his wife both had serious health problems, their marriage was breaking up, and he was working three jobs to make ends meet. He argued that his difficulties were reasonable cause for his late filings. The Tax Court upheld the penalties. Personal problems excuse tardy filing only if they make an individual incapable of managing his or her affairs. Any person capable of working three jobs could file timely.

Similarly, said the court, John R. and Geraldine M. Gore of Hobart, Indiana, ought not to be relieved of a late-return penalty just because their tax advisor recommended a delay to avoid an audit.

The IRS failed in its attempt to exact a penalty from William Haden, who claimed that he had filed at the post office on April 15. He told the Tax Court that the post office was so crowded on filing day that he had given the 1040 to a postal worker stationed on the street to accept returns, and the worker must have lost the return. Both William’s wife and a friend testified in support of his account. The court set aside the penalty. Although his story was “shaky” on a few details, it was believable overall.

There was no reasonable cause to excuse a late-payment penalty for estate taxes where the delay was caused by the heirs squabbling over who was liable for the taxes. Conversely, the Tax Court threw out a penalty for late filing of an estate tax return where an executrix was erroneously advised by her attorney that no return was due until a dispute between her and a beneficiary was resolved.

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