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Accuracy-Related Penalties:

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Introduction
Accuracy Related Penalty
Negligence of Rules
Substantial Understatement
Valuation Misstatement
Fraud Penalty
Reasonnable Cause
Annoucement 2002-2
Policy Statements
Audit Techniques

Audit Techniques Guide

Accuracy-Related Penalties for Taxpayers Involved In Tax Shelter Transactions

Chapter 2 - Accuracy-Related Penalty – IRC § 6662

Publication Date - August, 2004

NOTE: This guide is current through the publication date. Since changes may have occurred after the publication date that would affect the accuracy of this document, no guarantees are made concerning the technical accuracy after the publication date.

Chapter 2: Accuracy-Related Penalty – IRC § 6662

In General
IRC § 6662 imposes an accuracy-related penalty on any portion of an underpayment attributable to one or more of the following:

(1) negligence or disregard of the rules or regulations;
(2) any substantial understatement of income tax;
(3) any substantial valuation misstatement under Chapter 1 of the Code;
(4) any substantial overstatement of pension liabilities; and
(5) any substantial estate or gift tax valuation understatement.

See Exhibit 5 for a summary of IRC § 6662 and the related reasonable cause and good faith exception under IRC § 6664.

IRC § 6662 - Accuracy-Related Penalty
This ATG focuses primarily on the Negligence or Disregard of Rules or Regulations, Substantial Understatement and Substantial Valuation Misstatement components of the accuracy-related penalty that are most likely to apply in examinations relating to tax shelters. The following table provides references to the IRM Penalty Handbook for the other components of the accuracy-related penalty in the event they are applicable to a particular case under examination:

Penalty Component IRM Reference Page #
Overstatement of Pension Liabilities 20.1.5.10 27
Estate or Gift Tax Valuation Understatement 20.1.5.11 29

The accuracy-related penalty applies only if a return is filed, except that the penalty does not apply in the case of a return prepared by the Secretary under IRC § 6020(b). IRC § 6664(b); see also Treas. Reg. § 1.6662-2(a). The taxpayer also may not be subject to the accuracy-related penalty if the taxpayer had reasonable cause and acted in good faith under IRC § 6664(c). The reasonable cause and good faith exception under IRC § 6664(c) applies to all components of the accuracy-related penalty, with special rules for a substantial understatement attributable to a tax shelter item of a corporation.
Penalty Amount

The amount of the accuracy-related penalty is 20 percent of the portion of the underpayment resulting from the misconduct. The penalty rate is increased to 40 percent in certain circumstances involving gross valuation misstatements.
Stacking of the accuracy-related penalties is not permitted. The maximum amount of the accuracy-related penalty imposed on a portion of an underpayment of tax is 20 percent (or 40 percent in the case of a gross valuation misstatement) of that portion of the underpayment, even if that portion of the underpayment is attributable to more than one type of misconduct proscribed under IRC § 6662. The Service may, and should, however, assert the penalty for the underpayment based on each prohibited behavior, in the alternative, that applies. For example, if a portion of an underpayment is attributable to both negligence and a substantial understatement of income tax, the Service may rely on both theories (asserting the second theory in the alternative) in imposing the penalty, although the maximum accuracy-related penalty that may be imposed is 20 percent of that portion of the underpayment. Treas. Reg. § 1.6662-2(c).

The accuracy-related penalty also does not apply to any portion of an underpayment on which a penalty is imposed for fraud under IRC § 6663.

Definition of Underpayment
Underpayment means the amount by which any tax imposed exceeds the excess of (1) the sum of (A) the amount shown as the tax by the taxpayer on his return, plus (B) amounts not so shown previously assessed (or collected without assessment), over (2) the amount of rebates made. IRC § 6664(a).

Treas. Reg. § 1.6664-2(c)(2) provides that the amount shown as tax on an income tax return includes amounts shown as additional tax on a “qualified amended return” (unless the additional amount shown was omitted on the original return because of a fraudulent position on the original return). Treas. Reg. § 1.6664-2(c)(3) defines “qualified amended return” as an amended return filed after the due date of the return for the tax year (determined without regard to an extension of time to file) and before the time the taxpayer is first contacted by the Service concerning an examination of the original return, and, in the case of a tax shelter item, before the time a promoter described in IRC § 6700(a) is contacted by the Service concerning an examination of the shelter activity.

On April 30, 2004, the Service announced additional period of time after which a taxpayer is no longer permitted to file a qualified amended return. See Notice 2004-38, 2004-21 I.R.B. 1. Under Notice 2004-38 and in addition to the current requirements, a taxpayer must file a qualified amended return before the earliest of: (1) the date on which a third party is served a John Doe summons described in IRC § 7609(f) with respect to the return reflecting the transactions or tax items that are the subject of the summons or (2) the date of contact (date on which any person required to register a tax shelter under IRC § 6111(a) is first contacted by the Service for examination of an activity described in IRC § 6707(a) or the date of request (date on which any person described in IRC § 6112(a) receives a request from the Service for information required to be included on a list under IRC § 6112. Treasury and the Service will issue temporary regulations that will modify the definition of qualified amended return as reflected in Notice 2004-34. See Treas. Reg. § 1.6664-2(c) for further discussion of qualified amended returns.