Facts Needed to Abate Penalties
Taxpayers often contest penalties by arguing that their failures were due to reasonable cause. Many of these penalty abatement requests are resolved at the administrative level. The cases that end up being litigated typically do not have the best facts and, as a result, the case law in this area is not favorable to taxpayers. This is what makes the Rogers v. Commissioner, T.C. Memo. 2016-152, case noteworthy.
The court in Rogers concluded that failure to file and pay penalties should not be imposed because the taxpayer’s failures were due to reasonable cause. The court described the facts as follows:
Petitioner’s life was in a state of upheaval after the second fire [in her apartment] and through the period when the return was due. She was barred from reoccupying her apartment and, during the times relevant to the 2009 return, she was living under conditions she found to be dehumanizing at a YWCA; later, she experienced bouts of depression, a fall from a subway platform in 2009, and a skull fracture. She was subject to continuous monitoring and psychiatric examination while hospitalized. She did not resume conduct of the business she had operated from her apartment.
Even a cursory review of the prior case law shows that these facts alone are not sufficient to establish reasonable cause.
While these facts are not sufficient standing on their own, they may be sufficient when coupled with a legitimate argument explaining that the taxpayer did not have a tax filing or payment obligation.
In Rogers, the taxpayer believed that she was entitled to a casualty loss deduction in 2009 that the loss was sufficiently large that she would not have to file a tax return or owe a tax liability in 2009.
The deduction in question related to the fire in her apartment. The general rule is that taxpayers are entitled to the casualty loss deduction in the year it is incurred, unless there is a reasonable prospect of recovery or reimbursement for the loss in a later year. If there is a reasonable prospect of recovery in a later year, the loss is not deductible until the later year.
The taxpayer in Rogers explained that she believed that she was not entitled to deduct the loss in 2007–when the loss was sustained–as she had an ongoing claim with the insurance company for the loss. The taxpayer thought the loss was deductible in the year in which she finally settled her claim for the loss with the insurance company in 2009. The court does not address all of the facts related to this underlying issue, but the taxpayer may very well have been correct that the loss was allowable in 2009 and not in 2007.
Given this uncertainty as to the timing of the loss, the court factored this in with the facts surrounding her life circumstances to conclude that she acted with reasonable cause.
This holding is consistent with our experience in working penalty abatement claims at the administrative level. The IRS generally does allow penalty abatement requests for failure to file and pay penalties when there are circumstances, even those that are less extreme than those in the Rogers case, when the circumstances are coupled with a legitimate explanation as to why it was reasonable for the taxpayer to not have timely filed or paid. This extra explanation is often what differentiates a penalty abatement request that will be allowed by the IRS and one that will not.