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Tax and the Coronavirus: Penalty and Interest Waiver Authority

Posted on Mar. 23, 2020

It is decidedly rotten luck for taxpayers and practitioners that the coronavirus pandemic coincides with the tax return filing season. Information reporting forms started to arrive at the end of January, right along with the awful news out of China. Delaying tax payments and the height of filing season to give taxpayers and professionals extra time are reasonable options for mitigating a contagious disease crisis, but finding a legal basis for those delays isn’t as simple as it should be.

A filing deadline delay is a potentially helpful, if limited tool to mitigate the risk of disease transmission — fewer taxpayers visiting their return preparers should help with that. And when coupled with a delay in penalties and interest, it could be a useful economic tool. Treasury Secretary Steven Mnuchin estimated on March 11 that delaying some tax payments could result in more than $200 billion of liquidity for the economy. (Prior coverage: Tax Notes Federal, Mar. 16, 2020, p. 1808.)

The legal authority for waiving penalties and interest needs strengthening, and there’s an opportunity for an enterprising taxwriter in Congress to draft a bill that would pave the way for clearer administrative authority to waive penalties and interest in future public health emergencies. It wouldn’t be a headline-grabber, to be sure, but constituents are unlikely to bring out the pitchforks over a bill that gives Treasury more leeway to delay tax return filing and payments. And enabling the tax system to cope with a future crisis would be a worthy legislative contribution.

Under current law, whether Treasury has the power to waive interest and penalties on late tax payments depends on whether there’s a “federally declared disaster,” a contingency that relies on the president and involves many considerations beyond tax. It’s not a stretch to suppose that providing the legal authority to waive penalties and interest on late tax payments is at the bottom of the list of considerations for declaring a national emergency. The contingency was met March 13 for the coronavirus pandemic, when President Trump announced a national emergency.

Trump’s proclamation was made under the National Emergencies Act and the Robert T. Stafford Disaster Relief and Emergency Assistance Act. An emergency declared under the Stafford Act allows Treasury to waive penalties and interest for up to a year. In a letter to Cabinet members, Trump instructed Mnuchin to “provide relief from tax deadlines to Americans who have been adversely affected by the COVID-19 emergency, as appropriate, pursuant to 26 U.S.C. 7508A(a).” Treasury announced on March 18 that the delay until July 15 will apply to tax payments and that taxpayers wouldn't incur interest or penalties. And on March 20, amid a wave of criticism for not delaying the filing deadline as well, Mnuchin announced in a tweet that the April 15 deadline for filing tax returns would be postponed until July 15.

The letter effectively invited governors to submit requests for a declaration of a “major disaster” under the Stafford Act. The distinction between an emergency and a major disaster doesn’t seem to matter for applying section 7508A, but that’s another unexplored question.

Support for a Delay

Before the announcement, there was bipartisan support for extending the April 15 filing deadline established in section 6072. Democrats on the House Ways and Means Committee called for an extension in a March 10 letter, and Republicans in the House and Senate agreed.

But delaying the filing deadline doesn’t automatically waive penalties and prevent interest from accruing on tax payments submitted after April 15. For the delay of some tax payments to pump liquidity into the economy as Mnuchin said, waiving penalties and interest is important.

The American Institute of CPAs asked on March 11 for Treasury and the IRS to extend filing deadlines to October 15, and waive late payment penalties if at least 70 percent of an individual’s current tax due is paid by April 15. The late payment penalty typically doesn’t apply to taxpayers who request an extension of time to file by the filing deadline and pay at least 90 percent of the taxes they owe. The AICPA also requested that interest be waived through October 15.

When There’s a Disaster Declaration

If there’s a federally declared disaster, Treasury can wipe out both penalties and interest on late filings and payments for up to one year. The legal authority is in section 7508A, which is what Treasury and the IRS use to provide targeted relief for natural disasters like tornadoes and hurricanes.

Section 7508A(a) uses the definition of a federally declared disaster in section 165(i)(5)(A) and adds terroristic or military actions. The disaster loss provision in section 165(i)(5)(A) defines a federally declared disaster as any disaster that the president determines warrants assistance by the federal government under the Stafford Act. Two types of events can be declared under the Stafford Act: emergencies and major disasters.

Trump declared an emergency, and a pandemic seems to fit into that category. The distinction between an emergency and a major disaster is definitional, and the decision to declare one or the other under the Stafford Act determines the amount and type of federal aid available. But under section 7508A, it doesn’t appear to matter whether an emergency or a major disaster is declared. Either one would appear to trigger section 165(i)(5)(A), because it says “any disaster,” which should be broad enough to cover the emergency category.

An emergency under the Stafford Act is when the president determines that federal assistance is “needed to supplement State and local efforts and capabilities to save lives and to protect property and public health and safety, or to lessen or avert the threat of a catastrophe in any part of the United States” (42 U.S.C. section 5122(1)). It doesn’t mention pandemics, but it’s written broadly enough to cover them.

The president has authority to do the following: direct federal agencies to support state and local emergency efforts “to save lives, protect property and public health and safety, and lessen or avert the threat of a catastrophe, including precautionary evacuations”; coordinate disaster relief assistance; provide technical and advisory assistance; assist state and local governments in the distribution of medicine, food, and other supplies; and “provide accelerated Federal assistance and Federal support where necessary to save lives, prevent human suffering, or mitigate severe damage.”

Under the Stafford Act, the president has the power to declare an event an emergency in two situations: when requested to do so by a state governor, or if the emergency involves a subject area for which the United States exercises exclusive or preeminent responsibility or authority. An emergency declaration opens up the federal pocketbook. When governors make a request under 42 U.S.C. section 5191, they get to define the “type and extent of Federal aid required.”

The federal assistance authorized when a Stafford Act emergency is declared is more limited than what’s authorized under a declaration of a major disaster, because an emergency declaration doesn’t authorize actions like grants, unemployment assistance, food assistance for low-income households, or community disaster loans, and the dollar amount of assistance is capped unless Congress is notified that more is needed. A major disaster under the Stafford Act covers a different type of scenario, and is defined as:

any natural catastrophe (including any hurricane, tornado, storm, high water, winddriven water, tidal wave, tsunami, earthquake, volcanic eruption, landslide, mudslide, snowstorm, or drought), or, regardless of cause, any fire, flood, or explosion, in any part of the United States, which in the determination of the President causes damage of sufficient severity and magnitude to warrant major disaster assistance under this chapter to supplement the efforts and available resources of States, local governments, and disaster relief organizations in alleviating the damage, loss, hardship, or suffering caused thereby.

That definition doesn’t expressly include an outbreak of disease, and it’s unclear that such an event could qualify as a major disaster. Sen. Susan M. Collins, R-Maine, proposed adding terrorist acts and “any outbreak of infectious disease” to the definition of a major disaster in 2006 (S. 3721), but that provision wasn’t enacted.

In the past, the Federal Emergency Management Agency has said that a contagious disease isn’t within the scope of a major disaster under the Stafford Act. FEMA is responsible for coordinating the federal government’s response to a disaster or emergency declaration under that law. During a 2005 exercise simulating a biological attack that caused pneumonic plague in the United States, FEMA stated that a biological attack via a weapon of mass destruction wasn’t a major disaster under the Stafford Act. “The simulated events . . . did not qualify as a major disaster because biological disasters are not cited in the Act and are interpreted as ineligible by FEMA,” according to the review of the training exercise.

FEMA’s opinions on biological attacks don’t matter for tax purposes because Treasury doesn’t need a federal declaration to use its power to waive penalties and interest. Section 7508A(a) includes “a terroristic or military action” as additional reasons for the secretary to postpone the return filing deadline and waive interest and penalties for up to one year. The definition of terroristic activity in section 692(c)(2) is broad enough that it should include a biological attack, as long as “a preponderance of the evidence indicates [it] was directed against the United States or any of its allies.”

But the distinction between a biological attack and an outbreak that isn’t linked to terrorism probably shouldn’t matter for tax purposes. There’s no obvious policy reason to differentiate between a biological attack and an outbreak of contagious disease to determine whether to give the Treasury secretary the power to waive interest and penalties.

When There’s No Disaster Declaration

The missing piece in section 7508A is that a contagious disease outbreak isn’t clearly covered without a Stafford Act emergency declaration. Without it, there’s no clear way for Treasury to waive interest on late payments, even if the secretary uses the authority in the tax code to push back the filing and payment deadlines.

If there’s no Stafford Act declaration, the Treasury secretary has the authority under section 6081 to grant a reasonable extension of time, up to six months, for filing any return, and reg. section 1.6081-1(a) gives that authority to the IRS commissioner as well. However, the regulations explain that an extension of time for filing an income tax return doesn’t “extend the time for the payment of the tax unless specified to the contrary in the extension.”

The Treasury secretary and IRS commissioner would likely extend the time for payment in the event of an outbreak of contagious illness. Section 6081(c) has an anachronistic cross-reference to section 7508A that mentions a “Presidentially declared disaster,” which is from the 1998 version of the tax code, rather than the current wording in section 7508A, “federally declared disaster.” This difference likely means that the cross-references haven’t been updated, and that Congress hasn’t thought about postponements of interest for a while. When the current crisis subsides, it would probably be a good time to do that.

Section 6161 also allows the Treasury secretary to extend the time for payment of tax due for up to six months, but reg. section 1.6161-1 says that a requirement for an extension of the payment deadline is a satisfactory showing of “undue hardship,” which means the individual taxpayer must apply for an extension. Making taxpayers apply for an extension in a health crisis probably is inadvisable if part of the reason for the extension is to keep people from having to interact with their return preparers in the first place.

What Congress Can Do

Congress could clarify that pandemics are major disasters or emergencies under the Stafford Act, which would then give Treasury the clear ability to address penalties and interest along with a change in the filing date, although that’s probably unnecessary for declared emergencies. This also might not be ideal from a legislative standpoint because of the Stafford Act’s broad scope. 

A more targeted legislative solution is to amend the tax code. Section 7508A(a) gives the Treasury secretary power to waive interest and penalties for one year if, in the secretary’s determination, the taxpayer is affected by a federally declared disaster or a terroristic or military action. Adding “a pandemic” or “any outbreak of infectious disease” to that subsection would cement Treasury’s power to implement delays and limited-time waivers more seamlessly when the next public health crisis looms over the filing season.

That solution would be consistent with the authority given to the Treasury secretary to determine that a payment is a qualified disaster relief payment under section 139. Under section 139, a federally declared disaster is a qualified disaster for excluding qualified disaster relief payments from gross income, but section 139(c)(3) also gives the secretary the discretion to designate as qualified disasters other events that result “from an accident involving a common carrier, or from any other event” that the secretary deems “of a catastrophic nature.”

There’s precedent for that approach. Section 915 of the Taxpayer Relief Act of 1997 provided that if the Treasury secretary extended the time for filing income tax returns under section 6081 and the time for payment under section 6161 and waived penalties for the failure to file or pay for “any individual located in a Presidentially declared disaster area, the Secretary shall, notwithstanding section 7508A(b) of such Code, abate for such period the assessment of any interest prescribed under section 6601.” The same act defined a presidentially declared disaster area as an area that the president determined warrants assistance under the Stafford Act during 1997 or 1998.

Separating Treasury’s ability to waive penalties and interest from an emergency or major disaster declaration leaves the fundamental decision whether a waiver is appropriate in the hands of the executive branch, but also helps extricate that decision from the many other considerations that affect whether to declare an emergency or major disaster. So when the next contagious disease comes along, Treasury can act quickly — and still at the president’s direction — to delay penalties and interest as appropriate.

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