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FEAR OF FILING

By: Julian Block

THE TAX ADVISER

First, consider the provisions for criminal offenses. The one most frequently invoked, Code Section 7203, makes willful failure to file a misdemeanor punishable by a fine of as much as $25,000 and a jail sentence of up to one year, or both, plus the costs of prosecution.

For instance, the feds successfully targeted a CPA on failure-to-file charges. An appeals court rejected the CPA’s contention that his records were too sloppy for him to file proper returns.

An airline pilot’s conviction was upheld by an appeals court, which held that the pilot was not entitled to have the jury hear psychiatric testimony about the pilot’s obsession with the idea that payment of taxes is voluntary.

For more serious situations, the feds have the option to bring charges under Section 7201 for willful evasion. This offense is a felony, the punishment for which is a maximum fine of $100,000 and five years in prison, or both, plus prosecution costs.

Because of budget constraints and crowded court dockets, Uncle Sam subjects relatively few taxpayers to criminal prosecutions. So let’s look next at what the Internal Revenue routinely does: Slap nonfilers with civil penalties. Those severe, nondeductible penalties are in addition to nondeductible interest charges.

Under Section 6651, the Revenue Service can exact a late-filing penalty — generally, five percent of the balance due for each month, or part of a month, that a Form 1040 is overdue. The maximum penalty is 25 percent of the balance due (the amount that remains unpaid after subtractions for taxes previously paid through withholdings from wages and quarterly payments of estimated taxes).

Example: A balance due of $10,000 means a penalty of $500 a month and as much as $2,500 for a more-than-four-months-tardy return. The severity of the penalty escalates considerably when the IRS accumulates sufficient evidence to establish that the late filing is due to fraud, in which event, the Section 6651 penalty jumps from 25 to 75 percent.

To escape responsibility for civil fraud penalties, taxpayers frequently contend that the first failure to file caused their later failures to file. How come? Because submitting returns for subsequent years would reveal their initial nonfiling to the IRS, which then would press criminal charges — an argument that leaves the courts unmoved.

For instance, the Ninth Circuit Court of Appeals refused to attach any significance to the underlying fear of a criminal prosecution. To do so, observed the court, would “open a Pandora’s box of illusory defenses to the fraud penalty.”

In addition to the late-filing penalty, the IRS can assess a late-payment penalty. Also, you are liable for interest from April 15 on the balance due. Forget about any deductions for interest on overdue taxes.
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