The Accuracy-Related Penalty: New Disclosure Requirements

The Internal Revenue Service (IRS) has issued Revenue Procedure 2019-9, which outlines disclosure requirements to reduce or avoid accuracy-related penalty. This procedure applies to all tax returns prepared on 2018 forms.

The accuracy-related penalty under Internal Revenue Code (IRC) 6662 is imposed if there is a substantial understatement of tax, defined for corporations as a tax adjustment exceeding the lesser of 10% of the total correct tax (or $10,000 if greater) or $10 million. For all other income tax filers, the penalty applies to tax adjustments exceeding the greater of 10% of the total correct tax or $5,000. The amount of the penalty is 20% of the understated tax, but increases to 40% in certain cases, including not disclosing transactions that have no economic substance.

The Rev. Proc. sets forth adequate disclosure requirements for specific line items of various tax return forms (refer to Section 4.02). If the specific item is not listed in the Rev. Proc., the appropriate Disclosure Statement form 8275 or Regulation Disclosure Statement form 8275-R must be used to disclose the tax position taken. Failure to use these forms to disclose an item not specifically on this list will result in the IRS viewing the disclosure as insufficient. Though a recent court case ruled in favor of the taxpayer, stating that his return contained everything the IRS needed to understand the tax position taken, the IRS is not bound by that decision. Rather, the IRS is using the Rev. Proc. to clearly inform taxpayers exactly how adequate disclosure is to be made.

Regardless of disclosure attempts, the penalty will nevertheless be imposed if the IRS finds that the position taken on the tax return does not have reasonable basis to support it, is attributable to a defined tax shelter, or lacks substantiation. Substantiation means that the taxpayer can show where the amount came from and that good faith was used when putting that amount on the tax return.

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