IRS Penalties and Interest

U.S. tax law allows the Internal Revenue Service (IRS) to impose financial penalties if you fail to file your annual individual income tax return or pay the proper amount of tax due. Interest is calculated separately from penalties and assessed on your unpaid taxes and penalties. Congress included interest and penalties in the federal tax code to provide an incentive for Americans to pay the correct amount of tax on time.

When Are Penalties Applied?

The U.S. tax code includes more than 150 tax penalties that cover almost any situation where a taxpayer fails to meet statutory tax obligations. However, most of the penalties the IRS imposes result from one of the failures listed below.

Failure to File a Return on Time

For most people, your federal income tax return for a calendar year must be filed by the following April 15 (or the next business day if April 15 falls on a weekend or holiday). That means your income tax returns for 2023 are due April 15, 2024. The IRS imposes a failure-to-file penalty if you don't file by the due date or request an extension of time to file.

The IRS will grant every taxpayer an automatic six-month extension for filing their return if they request one by April 15. Individual taxpayers can request an extension online using the IRS' Free File service. However, even if you file for an extension, the IRS will still expect you to pay at least 90% of any tax due by April 15. The agency will impose a failure-to-pay penalty if you don't.

The penalty for failure to file an income tax return is 5% of the unpaid tax for every month (or part of a month, rounded up) that your return is late. The maximum penalty for failure to file is 25% of the unpaid tax if you file more than five months late. However, if you file more than 60 days late, a penalty will be applied: $450 or 100% of the tax due, whichever is less.

Since the late filing penalty is assessed based on your unpaid tax bill, you will not be required to pay a penalty if you don't owe the IRS any money. But it is still a good idea to file, even if you don't owe anything, because you can't receive a tax refund if you don't file. Plus, if you are due a refund for a tax year, you will lose it if you don't file a return requesting the refund within three years.

Failure to Pay

IRS imposes failure-to-pay penalties — often referred to as late payment penalties — that continue to accrue until you pay the tax owed. The IRS imposes two kinds of failure-to-pay penalties:

• Failure to pay the amount shown on your return: The penalty for failing to pay the amount you reported on your return is 0.5% of the unpaid amount each month, up to 25% of your unpaid taxes.
• Failure to pay tax that you did not report on your return: If the IRS finds you failed to pay tax that was not shown on your return, the agency will send you a notice. You will have 21 calendar days to pay after receiving the notice (10 days if you owe more than $100,000). Failure to pay the amount shown in the notice by the deadline will result in a monthly penalty of 0.5% of the unpaid amount.

If you can't pay the full amount you owe, and you work out a payment plan with the IRS, you will still be subject to a failure-to-pay penalty. But the amount will be reduced to 0.25% per month while you are making payments.

Failure to File and Pay

When the failure-to-file and failure-to-pay penalties are both applied for the same month, the IRS will give the taxpayer a small break. The failure-to-file penalty will be reduced to 4.5%, so the combined failure-to-file and failure-to-pay penalty will be 5% each month.

Accuracy-Related Penalties

Accuracy-related penalties are applied when you pay a portion of your tax bill but not the full amount shown on your return. The two most common accuracy-related penalties are:

• Negligence or disregard of the rules or regulations: This penalty is applied when the taxpayer doesn't make a reasonable attempt to follow the tax laws in preparing their return. In cases of negligence or intentional disregard of the regulations, the penalty is 20% of the underpayment that resulted from the negligence or intentional disregard.
• Substantial underpayment of income tax: A substantial underpayment of income tax by an individual means they understate their tax liability by the larger of 10% of the tax that should have been reported on their return or $5,000. The penalty is 20% of the understatement.

Underpayment of Estimated Tax

Most employed people will have their employer withhold a portion of their income so that they do not need to come up with their entire tax payment for the year each April. However, if you don't have enough withheld or are not subject to withholding because you don't earn your income as an employee, the IRS will require that you make estimated tax payments each quarter. Taxpayers who are required to make estimated tax payments but fail to do so will be subject to a penalty for the underpayment of estimated tax by an individual.

Erroneous Claim for a Refund or Credit

The penalty for an erroneous claim for a refund or credit penalty applies when the claim is for an excessive amount and the taxpayer does not have a reasonable cause for making the claim. The penalty is equal to 20% of the amount in excess of the allowed amount. The penalty does not apply to any portion of the claim for a refund or credit that is also subject to an accuracy-related penalty.

Interest

The IRS charges interest on late payments of taxes, penalties, and even unpaid interest. Interest payments go both ways. If the IRS owes you money, the agency must also pay interest on the amount it owes you.

How Is Interest Calculated?

The IRS usually starts charging interest on the first day you were supposed to pay the agency and continues to charge interest until you pay the full amount you owe. If the IRS grants you a filing extension, but you don't pay the full amount of tax you owe at that time, interest will be charged from the original due date for the payment. You will also be charged interest on any unpaid amounts if you have worked out a payment plan with the IRS.

The interest rates for tax underpayments and overpayments change quarterly, with the rates posted on the IRS website each quarter. For the first quarter of 2024 (January through March), the interest rate for tax underpayments and overpayments is 8% for individual taxpayers.

Additional Questions? Talk to a Lawyer

IRS penalties and interest are complicated issues that are difficult to understand if you're not a tax professional. If you have received notice from the IRS that you have underpaid your taxes or are worried you may have underpaid, speaking to a local tax attorney is a good idea. A tax lawyer understands how the IRS applies its penalties and calculates interest. They can ensure you only pay what is required by law. If you decide to contest the penalties, a tax attorney can represent you before the agency and in court.