The Internal Revenue Service is not exempt from making errors.
In fact, calculating underpayment interest, refund interest, and penalties charged to businesses is complicated, and, therefore, companies should consider the very real possibility that the IRS has miscalculated, which could result in many taxpayers unknowingly walking away from overpayments. This is money that is rightfully owed to them.
While company size is not a factor in who this happens to, startups and young companies are at particular risk for error. Among other tax obligations and requirements, the IRS rules concerning tax return due dates, estimated installment amounts, and employment tax liability due dates are, at best, confusing. Payment amounts and deadlines in the reporting, filing and payment process can be difficult and disconcerting, and companies that have never managed the process before are likely more prone to errors. Since navigating interest and penalties can be especially unwieldy, new businesses -- possibly those that are most in need of properly managing cash flow -- often fail to discover IRS errors or make their own mistakes.
A major concern for young companies is cash flow; there are times when no receipts are coming in and money is still going out. Managing liquidity can be particularly frustrating, and the success of the business may depend on its ability to effectively handle cash flow dilemmas. Managing risk is a major element of the decision processes of successful businesses, and one that must be carefully managed. One way of handling risk and adding value to available resources is to make sure that any interest or penalties that have been overpaid to the IRS wind up in the company's bank account, not in their IRS account.
SCRUBBING UP
A system that ensures a company's commitment to meeting tax compliance matters should be a part of its business plan, including a periodic monitoring of the company's tax account assessments for accuracy.
To discover IRS penalty and interest mistakes, a "scrub" is completed of a taxpayer's IRS transcripts of account. This is a thorough review of all account transactions in their entirety, with an emphasis on how they impact penalty and interest computations. The conducted analysis typically includes all types of taxes, from income and employment to excise and beyond. This is to provide a foundation for the proper calculation of interest, such as interest netting between tax forms, periods, and between entities.
As a best practice, implementing the same specialized software that the IRS employs to prepare manual calculations provides a better foundation for the correct recomputation of account interest and penalties. It's also important to note that there are certain interest provisions that the IRS's computer-generated calculations are not fit to handle, and taxpayers are not afforded the benefit of those provisions unless an affirmative claim is made.
THE PROBLEM WITH PENALTIES
Penalties can be a strong source for computational errors, since they are often calculated manually by the IRS. Additionally, the IRS may assess penalties that should not have been included at all. Although the IRS assesses penalties to ensure prospective compliance, very young companies that have not previously had penalties assessed may be afforded a reasonable cause position for abatement, which may be discovered during the IRS account scrub.
Because every transaction on an IRS account affects an interest computation (even those not currency-based, such as tax return filing date), those businesses with certain undertakings should pay particular attention to their IRS penalty and interest assessments. Here are the top questions to ask to assess a company's exposure:
- Has it sold or liquidated an entity, or is it acquiring an entity?
- Has it received an IRS refund(s) without interest?
- Has it filed federal returns with credit elections to the subsequent tax period?
- Has it paid penalties on IRS accounts, such as failure to file, failure to pay, failure to deposit, or estimated tax?
- Did it owe the IRS in one tax period, and did it have an overpayment in another?
- Is it under examination by the IRS, or has the company had an IRS audit/examination in the past?
- Has it filed any carrybacks or tentative allowances with the IRS?
- Has it received an IRS notice about a missing return, a penalty, a balance due, an unprocessible return, or interest owed?
- Has the company filed amended returns with the IRS?
- Has the company paid deficiency interest on its IRS accounts, or has the company received interest on an IRS refund?
Typically, the IRS penalty and interest recovery ("scrub") project is completed in phases. The first step consists of requesting a company's account transcripts from the IRS. Once received, a feasibility study is conducted in order to determine which tax forms or periods warrant further analysis and scrutiny. Following that first phase, the applicable interest and penalty rules are applied to the account transactions and the correct calculations are provided. As a final step, once potential recoveries are identified and the proper computations finalized, the taxpayer can give permission for a refund claim for the penalty or interest to be filed with the IRS that shows the appropriate unit. The claim is tracked during the entire process, meaning until it posts to the taxpayer's account, which can take four to six months.
This review often doesn't require much heartache on the taxpayer's side. As an initial investment, if there is no recovery identified, there may be no fees to pay other than the initial administrative duties, such as executing a Form 2848 (power of attorney) for the transcript request. And yet the payoff, especially to young or startup companies, can have a notable, positive impact on their cash flow and bottom line.
Todd Simmens is national managing partner of tax risk management at Top 10 Firm BDO USA LLP, and Cathy Stopyra is managing director of account and interest services.
