1. Elimination of interest differential on overlapping periods of interest on income tax overpayments and underpayments (Sec. 3301 of the Bill and Sec. 6621 of the Code)

Present Law

A taxpayer that underpays its taxes is required to pay interest on the underpayment at a rate equal to the Federal short term interest rate plus three percentage points. A special "hot interest" rate equal to the Federal short term interest rate plus five percentage points applies in the case of certain large corporate underpayments.

A taxpayer that overpays its taxes receives interest on the overpayment at a rate equal to the Federal short term interest rate plus two percentage points. In the case of corporate overpayments in excess of $10,000, this is reduced to the Federal short term interest rate plus one-half of a percentage point.

If a taxpayer has an underpayment of tax from one year and an overpayment of tax from a different year that are outstanding at the same time, the IRS will typically offset the overpayment against the underpayment and apply the appropriate interest to the resulting net underpayment or overpayment. However, if either the underpayment or overpayment has been satisfied, the IRS will not typically offset the two amounts, but rather will assess or credit interest on the full underpayment or overpayment at the underpayment or overpayment rate. This has the effect of assessing the underpayment at the higher underpayment rate and crediting the overpayment at the lower overpayment rate. This results in the taxpayer being assessed a net interest charge, even if the amounts of the overpayment and underpayment are the same.

The Secretary has the authority to credit the amount of any overpayment against any liability under the Code. Congress has previously directed the Internal Revenue Service to implement procedures for "netting" overpayments and underpayments to the extent a portion of tax due is satisfied by a credit of an overpayment.

Reasons for Change

The Committee believes that taxpayers should be charged interest only on the amount they actually owe, taking into account overpayments and underpayments from all open years. The Committee does not believe that the different interest rates provided for overpayments and underpayments were ever intended to result in the charging of the differential on periods of mutual indebtedness.

The Committee is also concerned that current practices provide an incentive to taxpayers to delay the payment of underpayments they do not contest, so that the underpayments will be available to offset any overpayments that are later determined. The Committee believes that this is contrary to sound tax administrative practice and that taxpayers should not be disadvantaged solely because they promptly pay their tax bills.

Explanation of Provision

The provision establishes a net interest rate of zero on equivalent amounts of overpayment and underpayment that exist for any period. Each overpayment and underpayment is considered only once in determining whether equivalent amounts of overpayment and underpayment exist. The special rules that increase the interest rate paid on large corporate underpayments and decrease the interest rate received on corporate underpayments in excess of $10,000 do not prevent the application of the net zero rate. The provision applies to income taxes and self-employment taxes.

Effective Date

The provision applies to interest for calendar quarters beginning after the date of enactment. Until such time as procedures are implemented that allow for the automatic application of this provision by the IRS, the Committee expects that the Secretary will promptly and carefully consider any taxpayer's request to have interest charges recalculated in accordance with this provision. It is expected that the Secretary will extend the statute of limitations on assessment where necessary to allow for the consideration of such requests.

In light of past Congressional statements urging the Secretary to eliminate interest rate differentials in these circumstances, and taking into consideration Congress' belief that the Secretary may do so, the Committee continues to expect that the Secretary will implement the most comprehensive interest netting procedures that are consistent with sound administrative practice, and not only those affected by this provision.

2. Increase in overpayment rate payable to taxpayers other than corporations (Sec. 3302 of the Bill and Sec. 6621(a)(1) of the Code)

Present Law

A taxpayer that underpays its taxes is required to pay interest on the underpayment at a rate equal to the Federal short-term interest rate (AFR) plus three percentage points. A taxpayer that overpays its taxes receives interest on the overpayment at a rate equal to the Federal short-term interest rate (AFR) plus two percentage points.

Reasons for Change

The Committee believes that the interest differential for noncorporate taxpayers should be eliminated.

Explanation of Provision

The provision provides that the overpayment interest rate will be AFR plus three percentage points, except that for corporations, the rate remains at AFR plus two percentage points.

Effective Date

The provision applies to interest for calendar quarters beginning after the date of enactment.

3. Elimination of penalty for individual's failure to pay during period of installment agreement (Sec. 3303 of the Bill and Sec. 6651 of the Code)

Present Law

Taxpayers who fail to pay their taxes are subject to a penalty of one-half percent per month on the unpaid amount, up to a maximum of 25 percent (Sec. 6651(a)). If the liability is shown on the return, the penalty begins to accrue on the date prescribed for payment of the tax (with regard to extensions (Sec. 6651(a)(2)). If the liability should have been shown on the return but was not, the penalty generally begins to accrue after the date that is 21 days from the date of the IRS notice and demand for payment with respect to such liability (Sec. 6651(a)(3)). Taxpayers who make installment payments pursuant to an agreement with the IRS (under Sec. 6159) are also subject to this penalty (Treas. reg. Sec. 301.6159-1(f) and Sec. 6601(b)).

Reasons for Change

The Committee believes that it is inappropriate to apply the penalty for failure to pay taxes to taxpayers who are in fact paying their taxes through an installment agreement.

Explanation of Provision

The provision provides that the penalty for failure to pay taxes is not imposed with respect to the tax liability of an individual for any month in which an installment payment agreement with the IRS (under Sec. 6159) is in effect, provided that the individual filed the tax return in a timely manner (including extensions).

Effective Date

The provision is effective for installment agreement payments made after the date of enactment.

4. Mitigation of failure to deposit penalty (Sec. 3304 of the Bill and Sec. 6656(a) of the Code)

Present Law

Deposits of payroll taxes are allocated to the earliest period for which such a deposit is due. If a taxpayer misses or makes an insufficient deposit, later deposits will first be applied to satisfy the shortfall for the earlier period; the remainder is then applied to satisfy the obligation for the current period. If the depositor is not aware this is taking place, cascading penalties may result as payments that would otherwise be sufficient to satisfy current liabilities are applied to satisfy earlier shortfalls.

Code section 6656(c) authorizes the Secretary to waive the failure to make deposit penalty for inadvertent failures by first-time depositors of employment taxes.

Reasons for Change

The Committee believes that the cascading penalty effect is unfair and that depositors should be able to designate payments to minimize its effect.

Explanation of Provision

The provision allows the taxpayer to designate the period to which each deposit is applied. The designation must be made no later than 90 days of the related IRS penalty notice. The provision also extends the authorization to waive the failure to deposit penalty to the first deposit a taxpayer is required to make after the taxpayer is required to change the frequency of the taxpayer's deposits.

Effective Date

The provision applies to deposits made more than 180 days after the date of enactment.

5. Suspension of interest and certain penalties where Secretary fails to contact individual taxpayer (Sec. 3305 of the Bill and Sec. 6404 of the Code)

Present Law

In general, interest and penalties accrue during periods for which taxes are unpaid without regard to whether the taxpayer is aware that there is tax due.

Reasons for Change

The Committee believes that the IRS should promptly inform taxpayers of their obligations with respect to tax deficiencies and amounts due. In addition, the Committee is concerned that accrual of interest and penalties absent prompt resolution of tax deficiencies may lead to the perception that the IRS is more concerned about collecting revenue than in resolving taxpayer's problems.

Explanation of Provision

The provision suspends the accrual of penalties and interest after 1 year if the IRS has not sent the taxpayer a notice of deficiency within 1 year following the date which is the later of (1) the original due date of the return or (2) the date on which the individual taxpayer timely filed the return. The suspension only applies to taxpayers who file a timely tax return. The provision applies only to individuals and does not apply to the failure to pay penalty, in the case of fraud, or with respect to criminal penalties. Interest and penalties resume 21 days after the IRS sends a notice and demand for payment to the taxpayer.

Effective Date

The provision is effective for taxable years ending after the date of enactment.

6. Procedural requirements for imposition of penalties and additions to tax (Sec. 3306 of the Bill and new Sec. 6751 of the Code)

Present Law

Present law does not require the IRS to show how penalties are computed on the notice of penalty. In some cases, penalties may be imposed without supervisory approval.

Reasons for Change

The Committee believes that taxpayers are entitled to an explanation of the penalties imposed upon them. The Committee believes that penalties should only be imposed where appropriate and not as a bargaining chip.

Explanation of Provision

Each notice imposing a penalty is required to include the name of the penalty, the code section imposing the penalty, and a computation of the penalty.

The provision also requires the specific approval of IRS management to assess all non computer generated penalties unless excepted. This provision does not apply to failure to file penalties, failure to pay penalties, or to penalties for failure to pay estimated tax.

Effective Date

The provision applies to notices issued, and penalties assessed, more than 180 days after the date of enactment.

7. Personal delivery of notice of penalty under section 6672 (Sec. 3307 of the bill and Sec. 6672(b) of the Code)

Present Law

Any person who is required to collect, truthfully account for, and pay over any tax imposed by the Internal Revenue Code who willfully fails to do so is liable for a penalty equal to the amount of the tax (Code Sec. 6672(a)). Before the IRS may assess any such "100-percent penalty," it must mail a written preliminary notice informing the person of the proposed penalty to that person's last known address. The mailing of such notice must precede any notice and demand for payment of the penalty by at least 60 days. The statute of limitations on assessments shall not expire before the date 90 days after the date on which the notice was mailed. These restrictions do not apply if the Secretary finds the collection of the penalty is in jeopardy.

Reasons for Change

The imposition of the 100-percent penalty is a serious matter. The Committee believes that permitting personal service of the preliminary notice required under Code section 6672 may afford taxpayers the opportunity to resolve cases involving the 100-percent penalty at an earlier stage.

Explanation of Provision

The provision permits in person delivery, as an alternative to delivery by mail, of a preliminary notice that the IRS intends to assess a 100-percent penalty. (In some cases, personal delivery may better assure that the recipient actually receives notice.)

Effective Date

The provision is effective on the date of enactment.

8. Notice of interest charges (Sec. 3308 of the Bill and new Sec. 6631 of the Code)

Present Law

Taxpayer generally must pay interest on amounts due to the IRS.

Reasons for Change

The Committee believes that taxpayers should be provided the detail to support the amount of interest charged by the IRS. The computation of interest is a complex calculation, often involving multiple interest rates. The Committee believes that it is appropriate to require the IRS to give notice to the taxpayer that interest is being charged, how it is calculated, and the total amount of the interest.

Explanation of Provision

The provision requires every IRS notice that includes an amount of interest required to be paid by the taxpayer that is sent to an individual taxpayer to include a detailed computation of the interest charged and a citation to the Code section under which such interest is imposed.

Effective Date

The provision applies to notices issued after June 30, 2000.