Form 5472 and 5471 Taxpayer Advocate Condemns Penalty

Form 5472 and 5471 Taxpayer Advocate Condemns Penalty

Form 5472 & 5471 Taxpayer Advocate Condemns Penalty 

Form 5472 & 5471 Taxpayer Advocate Condemns Penalty: In recent years, the Internal Revenue Service has shifted its enforcement focus toward international related tax compliance matters. In the realm of international tax, one of the biggest complexities involves the reporting of the foreign accounts and assets. Making matters even more complicated is that oftentimes taxpayers will be penalized for their noncompliance by way of the IRS issuing an automatic assessed penalty. This is the case, even in situations in which there is no unreported income — and it may be the taxpayers first violation. The reason for the complexities involving 5471/5472 penalty assessment and enforcement stems from the automatic assessed penalty procedure performed for noncompliance of forms such as 3520, 3530-A, 5471 and 5472. And, with the form 5472 penalty having recently been increased to $25,000 — it is important to understand why taxpayers should try to be compliant when filing the form.

Taxpayer Advocates Concerns about Form 5472 Penalties

As provided by the Taxpayer Advocate:

  • The IRS’s treatment of IRC §§ 6038 and 6038A foreign information reporting penalties2 as systemically assessable is legally unsupportable, administratively problematic, and imposes costs, delays, and stress for taxpayers.
  • Bifurcating income tax and international information penalties has created inefficient, expensive, and unnecessary procedures for taxpayers with offshore income and assets.
  • The IRS assesses the IRC §§ 6038 and 6038A penalties either systemically at the time of a late-filed return or manually at the conclusion of an examination.
  • In the former case, taxpayers are not contacted prior to assessment to determine whether a relevant defense, such as reasonable cause, would apply.
  • Instead, remedial steps and requests for relief become possible only after the penalties have been systemically assessed.

What does this Mean?

It means that the Taxpayer Advocate is highly concerned about how the Internal Revenue Service treats penalties involving Internal Revenue Code section 6038. Namely, the fact that these penalties are assessed separately from tax return penalties, without providing the taxpayer with any prior notice or ability to submit any defenses — which is completely unfair and completely without merit.

What is IRC 6038 and Form 5471

As provided by the Taxpayer Advocate:

  • IRC § 6038 requires U.S. persons to furnish certain information regarding foreign business entities they control.
  • This information is typically provided on Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations, which is attached to taxpayers’ annual income tax returns.
  • Failure to timely provide this information results in a $10,000 penalty, even if this information does not affect taxpayers’ ultimate tax liabilities.
  • The IRS notifies taxpayers that the penalty has been assessed. If the taxpayer does not provide the required information within 90 days, the statute imposes an additional penalty (sometimes referred to as a “continuation penalty”) for each 30-day period that the failure continues.
  • This increase is capped at $50,000.

What is IRC 6038A & Form 5472?

As provided by the Taxpayer Advocate:

  • 6038A requires 25 percent foreign-owned domestic corporations to report specified information as an attachment to the corporate income tax return.
  • This information is generally reported on Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business.
  • The penalty under IRC § 6038A begins at $25,000, and the continuation penalty, which commences 90 days after notification of assessment, is $25,000 for each 30-day period, without an upper limit.1
  • Originally, these penalties were imposed manually on taxpayers whose missing filings were discovered during an audit. That manual process is still a part of current audit practice.
  • However, beginning January 1, 2009, the IRS began systemic assessment of the monetary penalty under IRC § 6038(b)(1) regarding Forms 5471 attached to late-filed Forms 1120, U.S. Corporation Income Tax Return.
  • The statute does not provide the IRS with the ability to automatically assess and collect the penalties. 8 IRM, Introduction of International Penalties (Dec. 18, 2015).

What does this Mean?

It means that the IRS requires taxpayers to file a form 5471/5472 in accordance with Internal Revenue Code section 6038/6038A in order to report ownership of a foreign/US corporation. Noncompliance leads to penalties — but the penalties are not based on any tax liability. Therefore, even if the Taxpayer has no ultimate tax liability resulting from the noncompliance of filing of Form 5471/5472 — they still get hit with the non-filing penalty, in addition to a continuation penalty of up to $50,000*.

*The Form 5472 penalty starts at $25,000 instead of $10,000.

IRS Steps-Up 5471/5472 Enforcement

As provided by the Taxpayer Advocate:

  • Thus, the systemic penalty regime has expanded in the last decade to cover a much greater number of taxpayers.
  • As mentioned, the IRS treats these penalties as summarily assessable, as they are not subject to deficiency procedures, wherein taxpayers receive a notice of deficiency alerting them of the potential assessment and explaining taxpayers’ options for contesting or complying with the penalty assessment.
  • The notice of deficiency also informs taxpayers of the last day to petition the Tax Court for pre-assessment and prepayment review.
  • Many penalties related to income tax filings are not summarily assessable (that is, they are generally subject to deficiency procedures). For example, deficiency procedures apply when the IRS determines that noncompliance resulted in an underpayment of tax. Common penalties associated with deficiency actions include IRC § 6662 accuracy-related penalties.
  • This regime requires the IRS to determine a deficiency and allow the taxpayer to petition the Tax Court for a redetermination before making an assessment and initiating any collection action

26 USC Chapter 61 Information Returns

Chapter 61 refers to Information Returns and not tax liability penalties per se.

As provided by the Taxpayer Advocate:

  • However, Chapter 61 penalties, which include the IRC §§ 6038 and 6038A penalties, are not in Chapter 68, and, in the view of the National Taxpayer Advocate, among others, are therefore not assessable.
  • The IRC §§ 6038 and 6038A Penalties Are Convoluted and Punitive in Their Operation To systemically impose a $10,000 penalty per missing or incomplete Form 5471 ($25,000 for Form 5472) when the taxpayer may be missing tens or even hundreds of such forms can cause a highly disproportionate penalty, particularly when failure to file may not affect the underlying tax liability.
  • Further, these penalties can increase dramatically if the taxpayer becomes subject to the continuation penalty, which is manually assessed upon examination. This punitive approach runs counter to the guiding principles of IRS penalties.

What does this Mean?

Based on the one-size-fits-all approach taken by the IRS, these and other international information return penalties are issued without regard for whether or not the tax returns were filed timely and whether or not there is any ultimate tax liability stemming from the noncompliance. This results in the enforcement procedures being completely out of whack from the violation — and unnecessarily punitive in nature.

Try to Stay Clear of 5471 and 5472 Late Filing

In conclusion, it is apparent that the IRS is not playing fair when it comes to assessing and enforcing penalties involving Internal Revenue Code section 6038/6038A — which refers to certain reporting of businesses. While the penalties are overwhelming, taxpayers who have been issued these penalties should still try to dispute the penalty and work with an agent or Settlement Officer (SO) at the IRS to reduce or abate the penalties. 

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