Businesses spend a vast amount of time and resources planning and designing ways to save on their tax bills. Yet, they often overlook one of the most straightforward strategies to minimize their tax burden — ensuring their taxes are properly filed, paid, and on time.
While it may sound elementary, the penalties associated with late, incorrect, or underpaid taxes add up quickly and can cause a great deal of time and paperwork to remedy. Unfortunately, not everything goes as planned, and mistakes can occasionally happen; however, understanding when and how the IRS invokes penalties can help your business avoid unnecessary fines and headaches in the long run.
Here are some of the most common IRS tax penalties for businesses and how to avoid them.
Failure to File
Failing to file a tax return by its predetermined due date will result in a penalty. The penalty for failure to file comes down to two factors: how late the return is filed and the amount of unpaid taxes. Unfiled tax returns incur a fine of 5% of the unpaid taxes each month it goes unpaid, up to five months, or up to 25% of the total balance. For returns over 60 days late, a minimum penalty of the lesser of $450 or 100% of the balance is enforced.
While the best way to avoid this penalty is to file your taxes on time (April 18 for the 2023 year), filing a deadline extension can give your business more time to gather and submit the necessary information. Depending on the tax year, this date usually falls on or around October 15. For the 2023 tax year, S Corps and partnerships can file for an extension up until March 15, and the last day for C Corps to file for an extension is April 18.
Failure to Pay
Tax bills that go unpaid or underpaid will also incur a penalty. Like unfiled tax returns, this penalty is calculated based on the amount owed and the time it takes to pay. In this case, the IRS penalty is 0.5% of the unpaid taxes per month they are overdue. The 0.5% failure-to-pay minimum will accumulate for a maximum of 45 months or until the penalty reaches 25% of the unpaid total.
In some cases, paying tax bills in full is simply not an option. To minimize the burden on you and your business, you can set up a payment plan with the IRS to reduce the amount of fines and penalties that need to be paid.
Information Return Penalties
There is a penalty for when an information return or a payee statement is improperly filled out or filed late. One particularly common scenario is if a business fails to timely file a 1099-NEC form with the IRS or fails to file one altogether. In these cases, each statement filed late, or not at all, will receive a separate fine that follows the same penalty structure as failure to file or pay.
The best way to avoid these penalties is to properly track information returns and payee statements and file any necessary forms as early as possible to avoid delays.
Estimated Taxes
Typically, businesses and individuals pay quarterly estimated taxes throughout the year. Generally, these dates fall on the 15th of April, June, September, and January. The penalty for not paying (or underpaying) estimated taxes results in a penalty of the difference owed and the applicable interest rate, which may change quarterly. Even if you are owed a refund, this penalty may still apply.
A tax professional can help accurately calculate your business’s estimated tax payments and help you determine when these payments are due to the IRS.
Failure to Deposit
Employers are responsible for withholding certain federal taxes from their employees’ paychecks, like Social Security and Medicare taxes, and periodically depositing these employment taxes with the IRS. The failure to deposit penalty accrues over time and increases with each late bracket. For example, deposits that are one to five days late accrue a penalty of 2% of the unpaid deposit for payments. For deposits six to 15 days late, that increases to 5%. Furthermore, the penalty is 10% for deposits more than 15 days late or made within ten days of receiving the IRS notice of late payment and 15% for deposits not made within ten days of receiving the IRS notice requesting payment.
The penalty for failure to deposit begins to accrue the first day it is late; therefore, it is imperative to know your business’s deposit schedule and ensure all necessary taxes are deposited promptly and in full to avoid IRS involvement.
Accuracy Penalty and Inaccurate Tax Returns
Finally, the IRS will penalize businesses that make incorrect claims on their tax returns. Inaccurate returns could include incorrectly reporting total income, claiming ineligible deductions, or claiming credits that the business is not entitled to. Regardless of whether that claim was intentional or accidental, the IRS penalty is 20% of the total amount reported on the return that was underpaid due to inaccurate reporting.
Errors are not always avoidable, and mistakes do happen. However, understanding best practices and ensuring that your organization rightfully qualifies for credits and deductions is paramount when making claims on your return.
We’re Here to Help
If your business receives a dreaded penalty from the IRS, rest assured that there are options for helping you move forward. ARB’s team can help you assess the cause and legitimacy of the error and work with you to rectify the situation quickly and accurately.
Meagan Pritchard re-joined ARB in 2020 and is a senior tax manager. At ARB, Meagan provides domestic, international, state and local tax services and compliance as well as advisory consulting services, primarily for corporations, nonprofits and auto dealerships. Prior to joining ARB, Meagan worked in public accounting for 7 years, two of those previously at ARB, and also worked at a non-profit as a Controller.
