[Federal Register Volume 59, Number 52 (Thursday, March 17, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-6237]


[[Page Unknown]]

[Federal Register: March 17, 1994]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[IA-78-93]
RIN 1545-AS58

 

Accuracy-Related Penalty

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: These proposed regulations amend the accuracy-related penalty 
regulations under chapter 1 of the Internal Revenue Code. These 
amendments are necessary to effect changes to the accuracy-related 
penalty made by the Omnibus Budget Reconciliation Act of 1993. This 
document also provides notice of a public hearing on the proposed 
amendments.

DATES: Written comments must be received by June 21, 1994. The IRS 
intends to hold a public hearing on these proposed regulations on July 
12, 1994, beginning at 10 a.m. Persons wishing to speak at the hearing 
must submit outlines of their comments by June 21, 1994.

ADDRESSES: Send submissions to: Internal Revenue Service, Attn: 
CC:DOM:CORP:T:R (IA-78-93), room 5228, POB 7604, Ben Franklin Station, 
Washington, DC 20044. The public hearing will be held in the IRS 
Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW., 
Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the regulations, David L. 
Meyer, 202-622-6232; concerning submissions, Michael Slaughter, 202-
622-7180. (These are not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Temporary Regulations and 26 U.S.C. 7805(e)(1)

    In the Rules and Regulations section of this issue of the Federal 
Register, the IRS is issuing temporary regulations (Treasury Decision 
8533) to implement certain changes made to the accuracy-related penalty 
in section 6662 of the Internal Revenue Code (Code) by section 13251 of 
the Omnibus Budget Reconciliation Act of 1993 (OBRA 1993). Section 
7805(e)(1) of the Code (26 U.S.C. 7805(e)(1)) requires the publication 
of a notice of proposed rulemaking whenever the Secretary issues 
temporary regulations to allow an opportunity for public comment. The 
substance of T.D. 8533 is reflected in the proposed amendments to 
sections 1.6662-1 through 1.6662-4. The Internal Revenue Service 
presently intends to revise Secs. 1.6662-1 through 1.6662-4 in response 
to taxpayers' comments on the proposed regulations and does not 
presently intend to finalize Sec. 1.6662-7T.

Background

    These proposed regulations set forth certain changes made to the 
accuracy-related penalty in section 6662 of the Code by section 13251 
of OBRA 1993. These changes eliminated the disclosure exception for the 
negligence penalty (section 6662(b)(1) of the Code) and raised the 
disclosure standard for purposes of the penalties for disregarding 
rules or regulations (section 6662(b)(1) of the Code) and a substantial 
understatement of income tax (section 6662(b)(2) of the Code) from 
``not frivolous'' to ``reasonable basis.'' See section 13251 of OBRA 
1993 and H. Rep. No. 213, 103rd Cong., 1st Sess. 669 (1993) (the 
Conference Report).
    The legislative history to OBRA 1993 indicates that this 
``reasonable basis'' standard is a relatively high standard of tax 
reporting that is significantly higher than the ``not frivolous'' 
disclosure standard previously applicable to taxpayers under section 
6662 of the Code and currently applicable to preparers under section 
6694 of the Code. See Conference Report, at p. 669. A position is not 
frivolous if it is not ``patently improper.'' See Sec. 1.6694-2(c)(2) 
of the Income Tax Regulations and current Sec. 1.6662-3(b)(3). The 
legislative history to OBRA 1993 also provides that the reasonable 
basis standard is not satisfied by a position that is merely arguable 
or merely a colorable claim. See Conference Report, at p.669.
    In addition to adopting the new reasonable basis standard as the 
standard that a disclosed return position must satisfy to avoid the 
disregard and substantial understatement penalties, Congress adopted 
the new reasonable basis standard as the standard that a return 
position must satisfy to avoid the negligence penalty. See Conference 
Report at p.669.
    Treasury requests comments on how the new reasonable basis standard 
should be defined for purposes of the negligence, disregard, and 
substantial understatement penalties.

Explanation of Changes

    Section 1.6662-3(a) of the regulations generally provides that if 
any portion of an underpayment, as defined in section 6664(a) of the 
Code and Sec. 1.6664-2, of any income tax imposed under subtitle A of 
the Code that is required to be shown on a return is attributable to 
negligence or disregard of rules or regulations, there is added to the 
tax an amount equal to 20 percent of such portion. Section 1.6662-
3(b)(1) defines ``negligence'' to include any failure to make a 
reasonable attempt to comply with the provisions of the internal 
revenue laws or to exercise ordinary and reasonable care in the 
preparation of a tax return. Currently, Sec. 1.6662-3(c) generally 
provides that no penalty under section 6662(b)(1) may be imposed on any 
portion of any underpayment that is attributable to negligence or a 
position contrary to a rule or regulation if the position is adequately 
disclosed and is not frivolous, if the requirements of that section are 
met.
    Section 1.6662-4(a) of the regulations generally provides that if 
any portion of an underpayment of any income tax imposed under subtitle 
A of the Code that is required to be shown on a return is attributable 
to a substantial understatement of such income tax, there is added to 
the tax an amount equal to 20 percent of such portion. Section 1.6662-
4(a) further provides that, except in the case of any item attributable 
to a tax shelter, an understatement is reduced by the portion of the 
understatement that is attributable to positions for which there was 
substantial authority or adequate disclosure. Currently, under 
Sec. 1.6662-4(e)(2), this adequate disclosure exception will not apply 
if the position on the return is frivolous.
    As a result of OBRA 1993, the minimum standard that a disclosed 
return position must satisfy to avoid either the penalty for 
disregarding rules or regulations or for a substantial understatement 
of income tax has been raised from ``not frivolous'' to ``reasonable 
basis.'' In addition, there is no longer a disclosure exception for the 
negligence penalty and, to avoid that penalty, the return position 
generally must satisfy the new reasonable basis standard.
    These rules generally apply to returns that are due (without regard 
to extensions for filing) after December 31, 1993. However, the rules 
relating to changes to the penalties for negligence or disregard of 
rules or regulations will not apply to returns, including qualified 
amended returns, filed on or before March 14, 1994.

Special Analyses

    It has been determined that this notice of proposed rulemaking is 
not a significant regulatory action as defined in EO 12866. Therefore, 
a regulatory assessment is not required. It has also been determined 
that section 553(b) of the Administrative Procedure Act (5 U.S.C. 
chapter 5) and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do 
not apply to these regulations, and therefore, a Regulatory Flexibility 
Analysis is not required. Pursuant to section 7805(f) of the Internal 
Revenue Code, this notice of proposed rulemaking will be submitted to 
the Chief Counsel for Advocacy of the Small Business Administration for 
comment on its impact on small business.

Comments and Public Hearing

    Before the adoption of these proposed regulations, consideration 
will be given to any written comments that are submitted timely (a 
signed original and eight copies) to the Internal Revenue Service. All 
comments will be available for public inspection and copying in their 
entirety.
    A public hearing will be held on July 12, 1994, in the IRS 
Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW., 
Washington, DC. Because of access restrictions, visitors will not be 
admitted beyond the building lobby more than 15 minutes before the 
hearing starts.
    The rules of 26 CFR 601.601(a)(3) apply to the hearing.
    Persons who wish to present oral comments at the hearing must 
submit written comments, an outline of the topics to be discussed, and 
the time to be devoted to each topic by June 21, 1994.
    A period of 10 minutes will be allotted to each person for making 
comments.
    An agenda showing the scheduling of the speakers will be prepared 
after the deadline for receiving outlines has passed. Copies of the 
agenda will be available free of charge at the hearing.

Drafting Information

    The principal author of these proposed regulations is David L. 
Meyer, Office of Assistant Chief Counsel, Income Tax and Accounting, 
Internal Revenue Service. However, other personnel from the IRS and 
Treasury Department participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR part 1 is proposed to be amended as follows:

PART 1--INCOME TAXES

    Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *

    Par. 2. Section 1.6662-0 is amended by:
    1. Revising the introductory language,
    2. Adding entries for Sec. 1.6662-2 (d)(1) and (d)(2),
    3. Revising the entry for paragraph (b)(3) under Sec. 1.6662-3, and
    4. Adding an entry for Sec. 1.6662-7.
    5. The revised and added provisions read as follows:


Sec. 1.6662-0  Table of contents.

    This section lists the captions that appear in Secs. 1.6662-1 
through 1.6662-7.
* * * * *
    Sec. 1.6662-2  Accuracy-related penalty.
* * * * *
    (d) * * *
    (1) Returns due before January 1, 1994.
    (2) Returns due after December 31, 1993.
    Sec. 1.6662-3  Negligence or disregard of rules or regulations.
* * * * *
(b) * * *
(3) Reasonable basis.
    (i) In general [Reserved].
    (ii) Relationship to other standards.
* * * * *
    Sec. 1.6662-7  Omnibus Budget Reconciliation Act of 1993 changes 
to the accuracy-related penalty.

(a) In general.
    (1) Scope.
    (2) Effective date.
(b) No disclosure exception for negligence penalty.
(c) Disclosure standard for other penalties is reasonable basis.
(d) Definition of reasonable basis.
    (1) In general [Reserved].
    (2) Relationship to other standards.

    Par. 3. In Sec. 1.6662-1, the second and third sentences of the 
concluding text are revised to read as follows:


Sec. 1.6662-1  Overview of the accuracy-related penalty.

* * * * *
    * * * The penalties for disregard of rules or regulations and for a 
substantial understatement of income tax may be avoided by adequately 
disclosing certain information as provided in Sec. 1.6662-3(c) and 
Sec. 1.6662-4 (e) and (f), respectively. The penalties for negligence 
and for a substantial (or gross) valuation misstatement under chapter 1 
may not be avoided by disclosure.* * *
    Par. 4. Section 1.6662-2 is amended by:
    1. Redesignating the text of paragraph (d) as (d)(1) and adding a 
heading,
    2. Revising the first and second sentences of newly designated 
paragraph (d)(1), and
    3. Adding paragraph (d)(2).
    4. The revised and added provisions read as follows:


Sec. 1.6662-2  Accuracy-related penalty.

* * * * *
    (d) Effective date--(1) Returns due before January 1, 1994. Section 
1.6662-3(c) and Sec. 1.6662-4 (e) and (f) (relating to methods of 
making adequate disclosure) as codified in 26 CFR revised April 1, 
1993, apply to returns the due date of which (determined without regard 
to extensions of time for filing) is after December 31, 1991, but 
before January 1, 1994. Except as provided in the preceding sentence, 
Secs. 1.6662-1 through 1.6662-5 as codified in 26 CFR revised April 1, 
1993, apply to returns the due date for which (determined without 
regard to extensions of time for filing) is after December 31, 1989, 
but before January 1, 1994. * * *
    (2) Returns due after December 31, 1993. Except as provided in the 
last sentence of this paragraph (d)(2), the provisions of Secs. 1.6662-
1 through 1.6662-4 reflecting the changes made to the accuracy-related 
penalty by the Omnibus Budget Reconciliation Act of 1993 apply to 
returns the due date for which (determined without regard to extensions 
of time for filing) is after December 31, 1993. These changes include 
raising the disclosure standard for the penalties for disregarding 
rules or regulations and for a substantial understatement of income tax 
from not frivolous to reasonable basis, eliminating the disclosure 
exception for the negligence penalty, and providing guidance on the 
meaning of reasonable basis. The Omnibus Budget Reconciliation Act of 
1993 changes relating to the penalties for negligence or disregard of 
rules or regulations will not apply to returns (including qualified 
amended returns) that are filed on or before March 14, 1994.
    Par. 5. Section 1.6662-3 is amended by:
    1. Revising the second sentence of paragraph (a),
    2. Revising paragraph (b)(3), and
    3. Revising paragraphs (c) (1) and (2).
    4. The revisions read as follows:


Sec. 1.6662-3  Negligence or disregard of rules or regulations.

    (a) * * * The penalty for disregarding rules or regulations does 
not apply, however, if the requirements of Sec. 1.6662-3(c)(1) are 
satisfied and the position in question is adequately disclosed as 
provided in Sec. 1.6662-3(c)(2), or to the extent that the reasonable 
cause and good faith exception to this penalty set forth in 
Sec. 1.6664-4 applies. * * *
    (b) * * *
    (3) Reasonable basis--(i) In general. [Reserved].
    (ii) Relationship to other standards. The reasonable basis standard 
is significantly higher than the not frivolous standard applicable to 
preparers under section 6694 and defined in Sec. 1.6694-2(c)(2).
* * * * *
    (c) * * *
    (1) In general. No penalty under section 6662(b)(1) may be imposed 
on any portion of an underpayment that is attributable to a position 
contrary to a rule or regulation if the position is disclosed in 
accordance with the rules of paragraph (c)(2) of this section and, in 
case of a position contrary to a regulation, the position represents a 
good faith challenge to the validity of the regulation. This disclosure 
exception does not apply, however, in the case of a position that does 
not have a reasonable basis or where the taxpayer fails to keep 
adequate books and records or to substantiate items properly.
    (2) Method of disclosure. Disclosure is adequate for purposes of 
the penalty for disregarding rules or regulations if made in accordance 
with the provisions of Secs. 1.6662-4(f)(1), (3), (4), and (5), which 
permit disclosure on a properly completed and filed Form 8275 or 8275-
R, as appropriate. In addition, the statutory or regulatory provision 
or ruling in question must be adequately identified on the Form 8275 or 
8275-R, as appropriate. The provisions of Sec. 1.6662-4(f)(2), which 
permit disclosure in accordance with an annual revenue procedure for 
purposes of the substantial understatement penalty, do not apply for 
purposes of this section.
    Par. 6. Section 1.6662-4 is amended by:
    1. Removing the third sentence in paragraph (d)(2), and
    2. Revising paragraph (e)(2) to read as follows:


Sec. 1.6662-4  Substantial understatement of income tax.

* * * * *
    (e) * * *
    (2) Circumstances where disclosure will not have an effect. The 
rules of paragraph (e)(1) of this section do not apply where the item 
or position on the return--
    (i) Does not have a reasonable basis (as defined in Sec. 1.6662-
3(b)(3));
    (ii) Is attributable to a tax shelter (as defined in section 
6662(d)(2)(C)(ii) and paragraph (g)(2) of this section); or
    (iii) Is not properly substantiated, or the taxpayer failed to keep 
adequate books and records with respect to the item or position.
    Par. 7. Section 1.6662-7 is added to read as follows:


Sec. 1.6662-7  Omnibus Budget Reconciliation Act of 1993 changes to the 
accuracy-related penalty.

    (a) In general--(1) Scope. The Omnibus Budget Reconciliation Act of 
1993 made certain changes to the accuracy-related penalty in section 
6662. This section provides rules reflecting those changes.
    (2) Effective date. This section applies to returns that are due 
(without regard to extensions of time for filing) after December 31, 
1993. However, the provisions of these regulations relating to the 
penalties for negligence or disregard of rules or regulations will not 
apply to returns (including qualified amended returns) that are filed 
on or before March 14, 1994.
    (b) No disclosure exception for negligence penalty. The penalty for 
negligence in section 6662(b)(1) may not be avoided by disclosure of a 
return position.
    (c) Disclosure standard for other penalties is reasonable basis. 
The penalties for disregarding rules or regulations in section 
6662(b)(1) and for a substantial understatement of income tax in 
section 6662(b)(2) may be avoided by adequate disclosure of a return 
position only if the position has at least a reasonable basis. See 
Secs. 1.6662-3(c) and 1.6662-4(e) and (f) for other applicable 
disclosure rules.
    (d) Definition of reasonable basis--(1) In general. [Reserved].
    (2) Relationship to other standards. The reasonable basis standard 
is significantly higher than the not frivolous standard applicable to 
preparers under section 6694 and defined in Sec. 1.6694-2(c)(2).
Margaret Milner Richardson,
Commissioner of Internal Revenue.
[FR Doc. 94-6237 Filed 3-14-94; 12:20 pm]
BILLING CODE 4830-01-U