THE IRS WITHHOLDING FU PENALTY FU

According to IRS Topic 306 –

“If you didn't pay enough tax throughout the year, either through withholding or by making estimated tax payments, you may have to pay a penalty for underpayment of estimated tax. Generally, most taxpayers will avoid this penalty if they either owe less than $1,000 in tax after subtracting their withholding and refundable credits, or if they paid withholding and estimated tax of at least 90% of the tax for the current year or 100% of the tax shown on the return for the prior year, whichever is smaller.”

In February of 2018 the IRS revised the federal income tax withholding tables to reflect the lower rates enacted by the GOP Tax Act.  However, as many taxpayers found to their shock when preparing their 2018 Form 1040, withholding was reduced too “liberally” – perhaps on purpose so taxpayers would think that the Act reduced their taxes more than it actually did.  The result was that many taxpayers received substantially reduced refunds than they had in the past or had substantially increased balances due to the IRS with the filing of their returns – even if their income and withholding status and allowances did not change.

As I said back in April in my post “That Was The Tax Season That Was – Part Two” -

“Taxpayers did benefit from the lower rates of the Act, but the perhaps $50 per week more in their paycheck was usually more than the actual perhaps $25 tax savings.  The additional $25 or more per week had to be paid back when filing their 2018 return.

In addition, since the Act did away with the deduction for personal exemptions as well as many itemized deductions, the concept of the withholding exemption no longer applied.  Individuals who claimed additional exemptions for a spouse or dependents or for excess itemized deductions and did not revise their withholding for 2018 were royally screwed.  The increased amount and availability of the Child Tax Credit for dependent children under age 17 helped in some cases – but often not enough.

Almost every taxpayer whose withholding was based on the federal tables – and not a flat amount as with most IRA withdrawals and Social Security benefits – was under-withheld.  This was especially disastrous with multiple sources of withholding – like two-income couples, taxpayers with more than one job, and those receiving both pension and W-2 income.  I had clients owing $4,000, $9,000 and $20,000 because of the IRS withholding FU.”

The IRS realized its FU and thankfully, via IR-2019-55 issued on March 22, 2019, somewhat “relaxed” the safe-harbor for avoiding the penalty for underpayment of taxes - going from 90% of current year liability to 80%. 

Recently two of my clients received notices from the IRS assessing a penalty for underpayment of estimated tax using the old 90% of current liability threshold instead of the correct 80% to calculate the penalty.  These penalty assessments are clearly wrong.

I have no idea why the IRS has not made an adjustment to its penalty assessment software program to reflect the change to 80% for 2018 returns.  The Service has also not changed the 2018 Form 2210 to reflect this change.

If you receive a CP 14 or other notice from the IRS assessing a penalty for underpayment of estimated tax for 2018 DO NOT PAY THE ASSESSMENT. 

First check the math on the return, shown on Page 3 of the notice, to verify that the assessment was erroneously based on 90% of the current tax liability.  Then call or write to the IRS to explain their FU, referencing IR-2019-55.  If you write don’t expect a prompt response from “Sam”.  It will probably take 3 months before the issue is resolved.

Better yet – as soon as you receive ANY notice from the IRS or a state tax agency GIVE IT TO YOUR, OR A, TAX PROFESSIONAL IMMEDIATELY.   

You may also be able to further reduce the penalty by submitting IRS Form 2210 to “annualize” your 2018 income.  Another reason to give the notice to your, or a, tax professional – he or she will be able to let you know if this might work for you and properly prepare the Form 2210 for you. 

TTFN