Memorandum; penalty; Apr18,2006

Topic Code: P071Penalty/Interest           Document Reference: 06240027

TO:                    Margaret Schilling, Program Manager, Examination Section

          FROM:                    Jim McNulty, Policy Section

          DATE:                    April 18, 2006

          RE:                     Underpayment of Estimated Tax Penalty for Corporations

I have reviewed your request for a policy statement regarding the computation of the underpayment of estimated tax penalty for corporations.

Your example involves a corporation who reported a $150,001 corporation income tax liability on their 2003 Iowa return, which compares to a $62,983 tax liability for 2002. The corporation made four estimated payments of $15,000, $21,000, $19,000 and $17,000, respectively. Based on the exception to the penalty regarding making estimated payments equal to the prior year’s tax, the corporation was not subject to an underpayment of estimated tax penalty for the second, third and fourth quarters of 2003. The corporation is subject to an underpayment of estimated tax penalty for the first quarter of 2003.

The issue raised in your example involves the date of payment that should be considered for purposes of computing the penalty for the first quarter. On line 9 of the Iowa 2220, Underpayment of Estimated Tax by Corporations, there is still an underpayment for each of the second, third and fourth quarters. However, the second quarter estimated payment made on June 11, 2003 was sufficient, in conjunction with the first quarter estimated payment, to equal 50% of the 2002 Iowa tax liability. The Department had been contending that the date of payment was April 22, 2004, when the Iowa return was filed and the total tax due on the return was paid. The taxpayer is indicating that the date of payment should be June 11, 2003, when sufficient estimated payments were made to equal the prior year’s tax.

Determination: The date of payment in your example should be June 11, 2003, so the penalty should be computed in accordance with Attachment 1 of the policy request.

As noted in your request, a prior policy determination from John Christensen dated May 25, 1990 on an issue regarding the underpayment of estimated tax penalty for corporations stated that the Iowa estimated tax, penalty and exceptions to the penalty set forth in Iowa Code sections 422.85 through 422.92 were patterned after similar provision in the Internal Revenue Code. Therefore, it would be appropriate to look at the Internal Revenue Code for resolution of this issue.

Section 6655(b)(2) of the Internal Revenue Code sets forth the period of the underpayment, which is set forth below:

(2) The period of the underpayment shall run from the due date for the installment to whichever of the following dates is the earlier-

          (A)          the 15th day of the 3rd month following the close of the taxable year or,

          (B)          with respect to any portion of the underpayment, the date on which such portion is paid.

This language is the same as Iowa Code section 422.88(4) with the exception that the last day of the fourth month following the close of the taxable year is used for Iowa corporation tax purposes. Therefore, the period of the underpayment for the federal underpayment of estimated tax penalty should also be used for the Iowa underpayment of estimated tax penalty.

As noted in your request, the federal underpayment of estimated tax form, Form 2220, states that “The amount of the underpayment is adjusted to reflect only the number of days in the year that the underpayment remains outstanding.” From my review of federal forms and publications, it appears that the underpayment only remains outstanding once estimated payments are made during the year which equals the prior year’s tax. This is consistent with how tax preparers, software developers, and the Internal Revenue Service are interpreting this provision.

For example, this example is set forth in the 2005 instructions to Federal form 2220.

Example: A corporation underpaid the April 15 installment by $1,000. The June 15 installment requires a payment of $2,500. On June 10, the corporation deposits $2,500 to cover the June 15 installment. However, $1,000 of this payment is applied against the April 15, installment. The penalty for the April 15 installment is figured from April 15 to June 10 (56 days). The remaining $1,500 is applied to the June 15 installment.

This example indicates that once a payment is made to cover the exception to the penalty, the underpayment is no longer outstanding, so the penalty computation should stop at the date that the payment is made. This is also consistent with RIA ¶ S-5358 that was attached to the policy request.

If you have further questions on this issue, do not hesitate to contact me.

cc: Taxpayer Services