Penalties, Refund Claims & Professional Responsibility (2025)

Preparer Penalties

§6694(a) — Understatement Due to Unreasonable Position

Greater of $1,000 or 50% of income derived from preparation. "Unreasonable position" = not supported by substantial authority (<40% likelihood of prevailing). Exception: position disclosed on Form 8275 AND has reasonable basis.

§6694(b) — Willful or Reckless Conduct

Greater of $5,000 or 75% of income derived. Willful = intentional disregard. Reckless = gross indifference.

§6695 — Procedural Failures (amounts for 2025 returns filed in 2026; inflation-adjusted)

(For 2024 returns filed in 2025, the §6695(g) amount was $635.) A single return can generate up to $2,600 in §6695(g) penalties (4 categories × $650: EITC; CTC/ACTC/ODC group; AOTC; HOH). See due-diligence-refundable-credits.

§6713 — Unauthorized Disclosure (civil)

$250 per disclosure, max $10,000/calendar year. Does NOT require willfulness. Enhanced to $1,000/disclosure and $50,000/year when tied to identity theft (see identity-theft-data-protection).

§7407 — Injunction Against Preparers

Court can enjoin a preparer from future violations, from preparing certain types of returns, or from practicing altogether. Can freeze assets obtained through fraudulent/deceptive conduct. §7408 authorizes injunctions against tax-shelter/reportable-transaction conduct.

Return-Related Penalties (Taxpayer)

Failure to File (§6651(a)(1))

• 5% per month or fraction of unpaid tax, max 25%
• If both failure-to-file and failure-to-pay apply in the same month, the 5% file penalty is reduced by the pay penalty
• If return is >60 days late, minimum penalty = lesser of $525 or 100% of the tax required to be shown (applies to Form 1040 and Form 1120)
• Fraudulent late filing: 15% per month, max 75%
• No failure-to-file penalty if the taxpayer is due a refund

Failure to Pay (§6651(a)(2))

• 0.5% per month of unpaid tax, max 25%
• Increases to 1% per month after IRS issues an immediate-payment demand or 10 days after a levy notice on certain assets
• Reduced to 0.25% per month during an active installment agreement
• Interest accrues daily from the return's due date

Accuracy-Related Penalty (§6662)

20% of underpayment. Applies to:

• Negligence or disregard of rules/regulations
• Substantial understatement of tax — individual: greater of 10% of correct tax (5% if §199A deduction claimed) or $5,000; C corp (other than S corp/personal holding co.): lesser of 10% of required tax (capped at $10,000) or $10,000,000
• Substantial valuation misstatement (150%+ of correct value) → 20%
• Gross valuation misstatement (200%+ of correct value, or value ≤50% of correct) → 40%
• Substantial overstatement of pension liabilities
• Substantial estate/gift tax valuation understatement
• Exception: reasonable cause + good faith, OR (for understatement/misstatement) adequate disclosure on Form 8275 + reasonable basis

Fraud Penalty (§6663)

75% of underpayment attributable to fraud. IRS must prove fraud by clear and convincing evidence. On a joint return, the fraud penalty applies to each spouse separately — only the spouse whose underpayment involves fraud is penalized. "Fraud" is a willful act with intent to deceive/conceal; mere ignorance or disagreement with the law is NOT fraud. Civil fraud is corrective (tax + penalty); criminal fraud is punitive (fines/imprisonment) and is referred to IRS Criminal Investigation.

Frivolous Return Penalty (§6702)

$5,000 for filing a return that doesn't contain enough info to determine correct tax or contains substantially incorrect information (incl. "tax protester" arguments; altering/voiding the jurat). In addition to any other penalty. Doublable on a joint return. In Tax Court, frivolous positions trigger up to $25,000 under §6673 (see irs-appeals-tax-court).

Erroneous Refund Claim (§6676)

20% of the excessive amount claimed (if claim has no reasonable basis).

Trump Account Penalty (§6659 — new under OBBBA)

For improperly claiming the $1,000 Trump Account pilot-program credit for a non-qualifying child: $500 (negligence/disregard) or $1,000 (fraud).

Information Return Penalties (§6721 / §6722)

Penalties apply separately for failing to file with IRS (§6721) and failing to furnish the correct payee statement (§6722). "Small filer" = average annual gross receipts ≤ $5 million; "large filer" = > $5 million. Amounts shown are for 2025 returns filed in 2026.

Filing deadlines: Form 1099-NEC must be furnished to the payee AND filed with IRS by Jan 31 (regardless of filing method). Some forms (1099-B, 1099-S) must be furnished to payees by Feb 15. OBBBA added car-loan-interest reporting (§6050AA) as an information return/payee statement subject to these penalties (with 2025 transitional relief).

Recordkeeping Requirements

Substantiation

Taxpayers must keep records to prove income, expenses, and basis. Records may be electronic (scanned) if they can be stored, retrieved, and reproduced. No specific form is required, but estimated amounts are generally NOT deductible (exception: casualty/disaster victims may use good-faith estimates with disclosure). Charitable contributions ≥ $250 require a contemporaneous written acknowledgment from the donee. Business expenses must be "ordinary and necessary"; personal living expenses are not deductible; mixed-use assets are deductible only for the business portion.

2025 Recordkeeping — Qualified Tips & Overtime (OBBBA)

OBBBA created new deductions for qualified tips and qualified overtime, but W-2/1099 forms were NOT modified to separately report these amounts for 2025. Taxpayers claiming these deductions must substantiate BOTH eligibility and amount. Recommended records: pay stubs/earnings statements, Form 4070 (employee tip report) or monthly tip records, daily tip logs/POS reports, third-party settlement statements, and documents supporting the overtime premium calculation.

Statute of Limitations for Records / Assessment

If a return is filed before the original due date, the 3-year refund statute runs from the original due date (typically 4/15). If filed during an extension, the 3-year period runs from the filing/receipt date. For an amended return filed within 60 days after the statute expires, IRS has 60 days from receipt to assess (§6501(c)(7)).

Tax Evasion vs. Tax Avoidance

• Tax avoidance = using legal methods (deductions, credits, income adjustments) to reduce taxable income. NOT a crime. Taxpayers have the right to minimize tax legally.
• Tax evasion = willfully using affirmative acts of deception (concealment, false books, structuring cash receipts to avoid §6050I reporting, omitting income) to evade assessment or payment. A felony — criminal charges and penalties.
• Badges of fraud: personal items deducted as business expenses; inflated deductions; omitted income (especially cash); second set of books; cash not deposited to business accounts; concealment of income sources.
• Willful failure to file (§7203): up to $25,000 fine + 1 year imprisonment; if willful evasion, §7201 felony: up to $100,000 (corporations $500,000) fine + up to 5 years.

Trust Fund Recovery Penalty (TFRP) — §6672

100% penalty on the unpaid trust-fund taxes (income tax + Social Security/Medicare withheld from employees) assessed personally against any responsible person who willfully fails to collect/remit. A "responsible person" can include officers, directors, shareholders, accountants, bookkeepers, or even clerks with check-signing authority. "Willful" means the person knew or should have known the trust-fund taxes were not being paid and had the ability to correct it. Paying suppliers instead of IRS is willful. Payroll tax, excise tax, and fraud penalties are NOT dischargeable in bankruptcy.

COVID-ERTC Promoter Penalty (OBBBA §70605)

Applies to acts on/after July 4, 2025. A "COVID-ERTC promoter" who provides ERTC eligibility/amount assistance without meeting the due-diligence standards is penalized $1,000 per violation. A promoter is generally a person/entity that provides ERTC assistance and either: (a) derives >20% of annual revenue from ERTC services and charges based on refund/credit amount; OR (b) derives >50% of revenue from ERTC services; OR (c) ERTC services >20% of revenue and >$500,000 total. Certified Professional Employer Organizations (PEOs) are excluded. This penalty is separate from §6694 and §6701.

Additional Preparer Penalties

§6700 — Promoting Abusive Tax Shelters

• False statement about transaction tax benefits: 50% of gross income from the activity
• Gross valuation overstatement: lesser of $1,000 or 100% of gross income, per entity/arrangement/sale

§6701 — Aiding/Abetting Understatement

Penalty for helping another understate liability. (Mandatory OPR referral applies for §6700/§6701 violations — see practitioner-misconduct.)

Criminal Statutes (apply to anyone, not just preparers)

• §7206 — Fraud and false statements (perjury on a return, fraud in an offer-in-compromise/closing agreement): felony — up to $100,000 fine (corporations $500,000), up to 3 years imprisonment, plus prosecution costs
• §7207 — Fraudulent return, statement, or other document: misdemeanor — up to $10,000 fine (corporations $50,000), up to 1 year
• §7216 — Preparer disclosure/use of return info: misdemeanor — up to $1,000 fine (up to $100,000 if tied to identity theft), up to 1 year, plus prosecution costs
• §7407 — Injunction against preparers; §7408 — Injunction re tax shelters/reportable transactions (civil, in U.S. District Court)

A sanctioned preparer may appeal the penalty assessment.

Due Diligence for Refundable Credits & HOH

Preparers must meet four due-diligence requirements for EITC, CTC/ACTC/ODC, AOTC, and HOH filing status (Form 8867). Failure = $650 per failure under §6695(g) (no annual cap; up to $2,600 per return). See due-diligence-refundable-credits for the full framework.

Refund Claims

Timing

• 3 years from filing OR 2 years from payment (whichever later)
• RSED (Refund Statute Expiration Date) = last day to claim
• Protective refund claims: filed before RSED to preserve rights while case pending

Form 1040-X

Amended return for individuals. Must specify year, reason for change, amounts corrected. Can e-file.

Informal Claims

IRS may accept informal written claims that clearly identify taxpayer, tax year, and nature of claim. Must be perfected with formal claim before RSED.

Suits for Refund

Only after (1) filing proper administrative claim AND (2) waiting 6 months or claim denied. Must sue in US District Court or Court of Federal Claims within 2 years of denial.

Taxpayer Advocate Service (TAS)

Independent within IRS. Helps taxpayers experiencing:

• Economic harm or significant cost
• Delay >30 days to resolve issue
• No response from IRS by promised date
• Systemic issues affecting multiple taxpayers

Can issue Taxpayer Assistance Orders (TAO) to stop IRS collection actions causing significant hardship.

Interpreters & Language Access

Taxpayers with limited English proficiency entitled to interpreter services. IRS provides translated forms and publications. Schedule LEP.

Continuing Education (EAs)

72 hours per 3-year cycle:

• Minimum 16 hours per year (including 2 hours ethics)
• Excess hours cannot carry over to next cycle
• IRS-approved providers only
• Inactive status: CE still required (or enrollment terminated)