IRS EXPLAINS APPLICATION OF FAILURE-TO-DEPOSIT PENALTY RULES.

Rev. Proc. 90-58

SECTION I. PURPOSE

The purpose of this revenue procedure is to provide guidance regarding application of the failure-to-deposit penalty under section 6656 of the Internal Revenue Code as a result of changes made to the penalty provisions by the Revenue Reconciliation Act of 1989 ("1989 Act"), Pub. L. No. 101-239, 1990-1 C.B. 210. This revenue procedure describes how federal tax deposits will be credited in the determination of whether a failure-to-deposit penalty should apply. This procedure will apply with respect to all taxes required to be deposited under section 6302 of the Code and underlying regulations that are reported on the following Internal Revenue Service forms:

     Form 720, Quarterly Federal Excise Tax Return

In subtitle G (section 7742) of the 1989 Act, Congress revised the penalty provisions under section 6656 of the Code, effective with respect to any failure-to-deposit made after December 31, 1989. Under revised section 6656, the penalty rate is 2 percent of the deposit underpayment ("underdeposit") if the failure is for not more than 5 days, 5 percent if the failure is for more than 5 days but not more than 15 days, and 10 percent if the failure is for more than 15 days. The penalty rate increases to 15 percent if the tax is not paid on or before the earlier of (i) the day 10 days after the date of the first delinquency notice to the taxpayer under section 6303, or (ii) the day on which notice and demand for immediate payment is given under section 6861 or 6862 or the last sentence of section 6331(a).

SEC. III. SERVICE METHOD FOR APPLYING DEPOSITS (AND OTHER CREDITS)

01. MANNER IN WHICH DEPOSITS WILL BE APPLIED. Effective for deposit liability periods beginning after March 31, 1991, deposits will be applied in date-made order against deposit liabilities in due-date order. Thus, a deposit will first be applied to satisfy any past due underdeposits within the same return period, with the oldest underdeposit being satisfied first. Other credits to the taxpayer's account, such as an overpayment from the previous quarter, will be similarly applied. Amounts not deposited in an authorized depository as required by section 31.6302(c)-1(a)(2) of the Employment Tax Regulations but delivered to an Internal Revenue Service Office are not treated as deposits but will be credited to the taxpayer's account.

The following employment tax example illustrates how deposits will be applied in due-date order. This ordering rule is similarly applicable to deposits under section 6302 of the Code of railroad retirement taxes, FUTA taxes, excise taxes, and income tax withheld from nonresident aliens and foreign corporations:

EXAMPLE 1: On Wednesday, April 3, 1991, the close of an employer's eighth-monthly deposit liability period, Employer A has a deposit liability of $10,000. Under section 31.6302(c)-1(a)(1) of the regulations, the $10,000 must be deposited by Monday, April 8, 1991, three banking days after the close of the April 1-3 eighth-monthly period. * During the next eighth-monthly period running from Thursday, April 4, 1991, through Sunday, April 7, 1991, A incurs an additional deposit liability of $15,000. Under section 31.6302(c)- 1(a)(1), the $15,000 must be deposited by Wednesday, April 10, 1991, three banking days after the close of the April 4-7 eighth-monthly period. A deposits $7,000 on April 8 and $15,000 on April 10. The $7,000 deposit partially satisfies the $10,000 liability due April 8 resulting in a $3,000 underdeposit. The $15,000 deposited on April 10 is first applied to satisfy the $3,000 underdeposit on April 8 and the remainder is applied to the deposit liability due April 10. A will incur a 2% penalty on the April 8 underdeposit because the failure-to-deposit was for not more than 5 days. A also has a $3,000 underdeposit on April 10, thereby incurring a failure-to-deposit penalty on that amount. The penalty rate will depend on when that liability is satisfied.

02. DEPOSITS OF TAXES (OTHER THAN EXCISE TAXES) USING "SAFE- HAVEN" RULES. Both the deposits of (1) employment taxes by employers and (2) withheld income taxes by agents withholding from nonresident aliens and foreign corporation are subject to certain "safe-haven" rules. In the case of employment taxes, no failure-to-deposit penalty will apply if at least 95% of the required deposit is timely made and the remainder is timely deposited as required by the regulations. The same is true in the case of those who withhold from nonresident aliens and foreign corporations, except that a 90% threshold is used. In each case the make-up deposit must be deposited with the first deposit otherwise required after the 15th day of the following month, unless the safe-haven underdeposit occurs in the last month of the return period in which case the balance is due by the return due date. Section 1.6302-2(a)(1)(ii) of the Income Tax Regulations and section 31.6302(c)-1(a)(1) of the Employment Tax Regulations. The following employment tax examples illustrate how deposits will be applied in the case of those employers and withholding agents who deposit on a "safe-haven" basis.

EXAMPLE 2: For the April-June calendar quarter of 1991 Employer B makes deposits of employment taxes taking into account the 95% safe-haven rule found in section 31.6302(c)-1(a)(1) of the Employment Tax Regulations. For each eighth-monthly period in April 1991, B has an employment tax liability of $5,000. B makes timely deposits of $4,750 with respect to each eighth-monthly period. In May 1991, B again has a $5,000 liability for each of the first three eighth- monthly periods and makes timely deposits of $4,750 with respect to each such period. For the fourth eighth-monthly period of May 1991, (i.e., May 12-15) B not only has a periodic $5,000 liability but also a $2,000 liability for safe-haven underdeposits from April (8 deposit periods X $250 underdeposit). This is so because, under section 31.6302(c)-1(a)(1) of the Employment Tax Regulations, the safe-haven underdeposits must be deposited with the first deposit otherwise required after the 15th day of the month following the month in which the 95% safe-haven deposits were made. On May 20, 1991, three banking days after May 15, B deposits $6,500. The Service will apply that deposit to first satisfy the $2,000 in safe-haven underdeposits from April since they were the oldest of the liabilities due May 20, and the remaining amount, $4,500, will be applied against the $5,000 liability incurred in the May 12-15 eighth-monthly period. The $4,500 fails to satisfy the 95% safe-haven rule and the $500 underdeposit is subject to the section 6656 failure-to-deposit penalty. The rate of penalty will depend upon when that underdeposit is satisfied.

EXAMPLE 3: The facts are the same as in Example 2 except that B fails to make any deposit with respect to the May 8-11 eighth-monthly period. That $5,000 amount was required to be deposited by May 15, 1991. The $6,500 deposited by B on May 20 will first be applied to satisfy the $5,000 liability that was due by May 15, 1991, since that amount was due first. The remaining $1,500 will be used to partially satisfy the $2,000 in safe-haven underdeposits due May 20. The remaining amounts due May 20 (i.e., $500 in safe-haven underdeposits and the $5,000 underdeposit with respect to the May 12-15 eighth- monthly period) will be subject to penalties. The penalty rates will depend upon when those underdeposits are satisfied.

03. DEPOSITS OF EXCISE TAXES USING "SAFE-HAVEN" RULES. Depositors of excise taxes reportable on Form 720 also are subject to certain "safe-haven" rules. However, in the case of these excise taxes, the safe-haven underdeposit due date is not related to the due date of an otherwise required deposit. Underdeposits of excise taxes have their own specific due dates. Accordingly, such safe-haven underdeposits will be credited in due date order.

04. APPLICATION OF OTHER CREDITS TO TAXPAYER ACCOUNTS. As indicated above, other credits to the taxpayer's account will be applied in the same manner as deposits. The following examples illustrate how other credits to the taxpayer's account will be applied:

EXAMPLE 4: On April 4, 1991, three banking days after the close of the March 26-31 eighth-monthly period and the close of the first quarter employment tax return period, Employer C makes a payroll tax deposit of $10,000. The deposit is designated as a first quarter deposit and is made to satisfy C's March 26-31 deposit liability. This results in an overDEPOSIT for the quarterly return period of $3,500. For the eighth-monthly period April 1-3, 1991, the beginning of the second quarter return period, C incurs a deposit liability of $3,000. Because the $3,500 overdeposit made April 4 was designated as a deposit for the first quarter, it cannot be applied on April 4 to satisfy the $3,000 deposit liability for the April 1-3 eighth-monthly period because, under section 31.6302(c)-1(a)(1) of the Employment Tax Regulations, an overdeposit from one return period cannot be applied forward to satisfy a succeeding deposit liability in the next return period. On April 30, 1991, the due date for C's Form 941 for the first quarter of 1991, C files the form and reports an overPAYMENT of $3,500. C's second quarter account will be credited by the amount of the overpayment on the due date of the first quarter return, April 30. On April 30, the Service will use that amount to satisfy any liabilities for the second quarter to date, with the oldest liability being satisfied first.

EXAMPLE 5: During the eighth-monthly period May 1-3, 1991, Employer D incurs an employment tax liability of $5,000, thus requiring a deposit within 3 banking days. On May 8, 1991, the deposit due date, D hand-delivers a check in the amount of $5,000 to the local Internal Revenue Service District Office, rather than depositing the check in an authorized depository as required by section 31.6302(c)-1(a)(2) of the regulations. Because the $5,000 amount has not been deposited, D incurs a failure-to-deposit penalty under section 6656 of the Code. However, the Service will apply the $5,000 to D's account as of May 8, 1991. Thus, the amount may be used to satisfy any existing underdeposit in that calendar quarter, with the oldest liability being satisfied first. Since the $5,000 was credited to the taxpayer's account and is, thus, not an amount due at the time the quarterly return was required to be filed, the 15 percent penalty under section 6656 will not apply and the highest rate of penalty that can apply to D for the failure to deposit the $5,000 is 10 percent.

SEC. IV EFFECTIVE DATE

This revenue procedure is effective with respect to deposit periods beginning after March 31, 1991.

DRAFTING INFORMATION

The principal author of this revenue procedure is Vincent G. Surabian of the Office of Assistant Chief Counsel (Income Tax and Accounting). For further information regarding this revenue procedure, contact Mr. Surabian on (202) 566-5985 (not a toll-free call).