IRS Plays Hardball on Accuracy-Related Penalty

In a recent Action on Decision (AOD 2012-005), IRS concluded that even though the state of the law may be uncertain at the time a taxpayer files his return, there exists a burden on the taxpayer to at least acquaint himself with the issues, to include obtaining competent professional advice, in order to be exonerated from the accuracy-related penalty under a “reasonable cause” theory.

The taxpayers had purchased property with the intention of demolishing the house on that property and constructing a new one. They allowed their local fire department to burn the house down as a training exercise, and recorded a large charitable contribution deduction on their tax return. IRS denied the deduction, and taxpayers went to Tax Court which upheld the deduction disallowance, but declined to impose the accuracy-related penalty, finding that the law in a case of this nature was uncertain at the time the deduction was claimed.

IRS reasoned that a taxpayer couldn’t have been acting in good faith and therefore have reasonable cause on the basis of the unsettled state of the law if the taxpayer was not aware of the state of the law, and didn’t make a reasonable attempt to become aware.