Editor: John L. Miller, CPA
Tax professionals are generally aware that a taxpayer must pay interest on any underpayment of tax. The IRS collects interest for the time the taxpayer has the use of the government’s money, so interest generally accrues from the date the tax was to be paid until the taxpayer actually pays the tax. The underpayment interest rate charged to the taxpayer is equal to the federal short-term rate plus three percentage points (Sec. 6621(a)(2)). In the case of certain large corporate underpayments, a special “hot interest” rate equal to the federal short-term interest rate plus five percentage points applies (Sec. 6621(c)).
Although the federal short-term rate is currently low, underpayment interest can still accumulate to a significant dollar amount. Moreover, interest computations can be very complex, which can lead to errors in the amount of interest a taxpayer is charged. Therefore, tax professionals should review IRS interest computations to determine that the Service has used the correct interest rates, properly included all payments of tax, and charged interest for the correct period of time. As to making sure the IRS has charged interest for the correct period of time, the Service recently provided some guidance on when underpayment interest is suspended under Sec. 6601(c).
Suspension of Underpayment Interest Under Sec. 6601(c)
Sec. 6601(a) provides generally that if a taxpayer does not pay an amount of tax on or before the date prescribed for payment, interest shall be paid for the period from the due date to the date of payment. Sec. 6601(c) provides that
in the case of a deficiency as defined by section 6211, if a waiver of restrictions under section 6213(d) on the assessment of the deficiency has been filed, and if notice and demand . . . for payment of such deficiency is not made within 30 days after the filing of such waiver, interest shall not be imposed on such deficiency for the period beginning immediately after such 30th day and ending with the date of notice and demand.Interest is also not imposed during this period on any interest that may have previously accrued on the deficiency.
IRS Program Manager Technical Assistance
The IRS issued program manager technical assistance (PMTA 2009-003 (1/6/09)) in response to a question concerning the application of Sec. 6601(c) in the case of a taxpayer that closed a delinquent return filing investigation with the submission of a delinquent return, rather than the execution of a Form 870, Waiver of Restrictions on Assessment and Collection of Deficiency in Tax and Acceptance of Overassessment, or other consent to assessment. In the usual TDI (taxpayer delinquency inquiry), a taxpayer fails to file a return. Third-party information reports suggest that the taxpayer has received income and would owe a tax. Accordingly, the IRS sends an inquiry letter to the taxpayer stating that it has not received a federal income tax return and requesting the taxpayer to file the delinquent tax return.
If the taxpayer fails to respond to the inquiry letter, the IRS initiates an examination to determine the taxpayer’s income tax liability. Following the procedures set forth in Regs. Sec. 301.6020-1, the IRS examiner prepares a tax return during the course of the examination (as authorized by Sec. 6020(b)) and asks the taxpayer to sign the prepared tax return. The examiner may offer a taxpayer a Form 870 or other form consenting to the assessment of the tax liability rather than being requested to sign the prepared tax return.
PMTA 2009-003 concluded that the interest-free period provided by Sec. 6601(c) does not apply when the taxpayer closes a delinquency investigation by submitting a return. In the PMTA, the IRS addressed a perception that an unfair discrepancy exists between taxpayers that file returns and taxpayers that agree to execute a consent at the conclusion of the TDI. The perceived unfair discrepancy was that taxpayers agreeing to execute a Form 870 or other form consenting to the assessment of the tax liability at the conclusion of the TDI may benefit from the application of Sec. 6601(c) while a taxpayer signing a return could not benefit from the suspension period.
In PMTA 2009-003, the IRS disagreed with the idea that Sec. 6601(c) should apply at the conclusion of a TDI whether the taxpayer signed a tax return prepared by the Service or signed a consent to the assessment of tax. The PMTA noted that Sec. 6601(c) exists to encourage the Service to promptly process consents to assess tax and that when a taxpayer executes a Form 870 or other consent to assess a deficiency, the interest-free period provided by Sec. 6601(c) applies only to the period described in Sec. 6601(c). By statute, interest is not imposed if the notice and demand for payment of the deficiency agreed to in the consent have not been issued within 30 days after the execution of the consent.
PMTA 2009-003 also noted that a taxpayer’s execution of a Form 870 is not the legal equivalent of filing a return. The PMTA discussed a number of differences between a tax return and a Form 870, including:
- A return has the effect of commencing the running of the periods of limitations and collection;
- It meets the requirement that the taxpayer file a written claim for refund if the taxpayer is entitled to a refund; and
- It allows the accrual period for the failure- to-file penalty to come to an end.
When reviewing interest computations for clients, tax professionals should review the IRS interest computations to ensure the IRS has applied interest suspension rules under Sec. 6601(c) if applicable. As stated above, a taxpayer is relieved of the obligation to pay underpayment interest where:
- There is a deficiency;
- The taxpayer files a waiver of restrictions on assessment; and
- The IRS fails to issue a notice and demand within 30 days after the filing of the waiver.
The interest suspension rules under Sec. 6601(c) are not limited in application to delinquent return filing investigations. At the conclusion of most tax return examinations, if the Service has proposed adjustments, it has been the practice of revenue agents to seek a waiver. A waiver can be made by executing and filing Form 870 or it can be made on a Form 870-AD, Offer to Waive Restrictions on Assessment and Collection of Tax Deficiency and to Accept Overassessment, but it is not effective until accepted by the IRS, thereby deferring any termination of interest under Sec. 6601(c). Similarly, a Form 870 conditioned on execution of a closing agreement is not effective until the closing agreement is executed.
Once an executed waiver is effective, if the Service fails to make notice and demand for payment of such deficiency within 30 days after the filing of such waiver, the interest suspension provision under Sec. 6601(c) applies. As an example, assume the IRS determines that a taxpayer has a deficiency in income tax for 2007 and files a waiver on June 1, 2008. The IRS issues a notice and demand to the taxpayer on December 1, 2008. Under Sec. 6621(c), the taxpayer is relieved from paying:
- Underpayment interest on the deficiency for the period July 2, 2008– December 1, 2008; and
- Compound interest for the period July 2, 2008–December 1, 2008, on the interest accrued as of July 2, 2008.
This article does not constitute tax, legal, or other advice from Deloitte Tax LLP, which assumes no responsibility with respect to assessing or advising the reader as to tax, legal, or other consequences arising from the reader’s particular situation.
John Miller is a faculty instructor at Metropolitan Community College in Omaha, NE. John Keenan is a tax director and Vibhuti Patel is a senior manager with Deloitte Tax LLP in Washington, DC. Mr. Miller and the authors are members of the AICPA Tax Division’s IRS Practice and Procedures Committee. For further information about this column, contact Mr. Miller at email@example.com.