Penalties are often part of an audit result, and a common question is whether first-time penalty abatement can remove them. The answer depends on the penalty. First-time abatement covers late filing, late payment and late deposit penalties. It does not cover the accuracy-related penalty most often proposed in an audit, which instead calls for reasonable cause and good faith or another statutory defense.
Penalties That Can Arise in or Around an Audit
- Accuracy-related penalty (section 6662): 20% of the portion of an underpayment attributable to negligence, a substantial understatement of income tax or other listed grounds. For individuals, an understatement is substantial if it exceeds the greater of 10% of the correct tax or $5,000. The rate is 40% for gross valuation misstatements and certain other categories.
- Civil fraud penalty (section 6663): 75% of the portion of an underpayment attributable to fraud.
- Failure to file (section 6651(a)(1)): 5% of the unpaid tax for each month or partial month the return is late, up to 25%. For a Form 1040 or 1120 due after December 31, 2025 that is more than 60 days late, the minimum penalty is the lesser of $525 or 100% of the tax due.
- Failure to pay (section 6651(a)(2) and (a)(3)): 0.5% of the unpaid tax for each month or partial month, up to 25%. For tax first determined in an audit, the penalty generally begins if the amount is not paid by the date stated in the IRS notice and demand.
When failure-to-file and failure-to-pay penalties apply in the same month, the failure-to-file penalty is reduced by the failure-to-pay penalty for that month.
First Time Abate: What It Covers
According to the IRS, first-time abatement (FTA) applies only to these penalties:
- failure to file (sections 6651(a)(1), 6698(a)(1) and 6699(a)(1));
- failure to pay (sections 6651(a)(2) and 6651(a)(3)); and
- failure to deposit (section 6656).
It is not available for returns with event-based or infrequent filing requirements, for the daily delinquency penalty, or for information reporting that depends on another filing.
Who Qualifies for FTA
The IRS requires a history of timely compliance:
- the same type of return was timely filed for the prior three years (or 12 consecutive quarters); and
- no penalty, other than an estimated tax penalty, was assessed in that period, or any penalty assessed was later removed for reasonable cause or IRS error.
Businesses must meet additional failure-to-deposit criteria. A request can be made by calling the number on the notice or by sending a written statement or Form 843, Claim for Refund and Request for Abatement. When a penalty is removed, the related interest on that penalty is reduced or removed as well.
New in 2026: Automatic Exemption from Penalty
The IRS has announced that FTA is transitioning to a new program, Automatic Exemption from Penalty (AEP), beginning in summer 2026. Under AEP, if a taxpayer files or pays late but has timely filed returns and paid the tax due for the three prior years (or 12 consecutive quarters), failure-to-file, failure-to-pay and failure-to-deposit penalties are not assessed in the first place, and the IRS sends a notice explaining that the relief was applied. AEP applies to 2025 tax year returns and 2026 quarterly returns and later, for Forms 1040, 1065, 1120, 940, 941, 943, 944, 945 and CT-1. FTA remains available for earlier periods and for returns not considered under AEP.
Neither FTA nor AEP covers the accuracy-related penalty. Relief from that penalty depends on reasonable cause and good faith, substantial authority or adequate disclosure, or procedural defenses such as the written supervisory approval requirement of section 6751(b).
Reasonable Cause for the Accuracy-Related Penalty
Under section 6664(c), no accuracy-related penalty applies to a portion of an underpayment for which the taxpayer shows reasonable cause and good faith. The IRS considers factors such as the efforts made to report the correct tax, the complexity of the issue, the taxpayer’s education, experience and knowledge of tax law, and the steps taken to understand the obligation or obtain advice. When a taxpayer relied on an advisor, the IRS considers whether the taxpayer provided all needed information and whether the advisor was competent and experienced with the issue.
Reasonable Cause for Late Filing or Payment
For failure-to-file and failure-to-pay penalties, the IRS looks for ordinary care and prudence. Examples it lists include fires, natural disasters or civil disturbances, inability to obtain records, death, serious illness or unavoidable absence of the taxpayer or immediate family, and system issues that delayed a timely electronic filing or payment.
Some reasons generally do not qualify. In United States v. Boyle, 469 U.S. 241 (1985), the Supreme Court held that reliance on an agent to file a return on time is not reasonable cause for a late filing. The IRS also notes that lack of knowledge, mistakes and oversights, and lack of funds standing alone generally are not sufficient. Reasonable cause does not apply to certain penalties, such as the estimated tax penalty.
Raising Penalty Relief During an Audit
Penalty defenses should be presented to the examiner in writing, with supporting documents, before the examination closes. If the examiner does not agree, the penalty can be addressed in a protest to the IRS Independent Office of Appeals and, where it is included in a notice of deficiency, in a Tax Court petition.
The Bottom Line
First-time abatement, and its successor AEP, can eliminate late filing, late payment and late deposit penalties for taxpayers with a clean three-year history. The accuracy-related penalty that commonly accompanies an audit adjustment is different and requires a showing of reasonable cause and good faith or another statutory defense.
Facing penalties from an IRS audit?
Tax attorney Cassra Minai, Esq. can review the penalties and available relief in a confidential consultation.