First-Time Penalty Abatement: How to Get IRS Penalties Removed

IRS penalties can add up quickly, turning a stressful tax situation into a far more expensive one. For business owners and real estate investors who have maintained good compliance records, the IRS offers a remedy known as first-time penalty abatement, or FTA. Outlined in the Internal Revenue Manual at IRM 20.1.1.3.6.1, this provision allows qualifying taxpayers to have certain penalties removed entirely, provided they meet a clean compliance history requirement covering the prior three tax years.

What Is First-Time Penalty Abatement?

First-time penalty abatement is not a provision found in the Internal Revenue Code itself. It is an administrative waiver outlined in IRM 20.1.1.3.6.1, which instructs IRS employees to consider penalty relief for taxpayers with a previously clean compliance history. The IRS recognizes that even conscientious taxpayers can occasionally make mistakes, and penalizing someone who has otherwise followed the rules for years does not serve the goal of encouraging voluntary compliance. FTA provides a mechanism to eliminate the resulting penalty without requiring the taxpayer to demonstrate reasonable cause under IRC Section 6651(a). While FTA is not a right guaranteed by statute, when a taxpayer clearly meets the eligibility requirements, IRS representatives are trained to apply the relief.

Which Penalties Qualify for Abatement?

Not every IRS penalty is eligible for first-time abatement. The program covers three specific categories. The first is the failure-to-file penalty under IRC Section 6651(a)(1), which applies when a return is submitted after its due date, including extensions. This penalty accrues at 5% of the unpaid tax per month, up to a maximum of 25%. The second is the failure-to-pay penalty under IRC Section 6651(a)(2), which applies when the tax shown on a return is not paid by the due date, accruing at 0.5% per month up to 25%. The third is the failure-to-deposit penalty under IRC Section 6656, which applies to employment tax deposits that are late, insufficient, or made through the wrong method.

Penalties outside these three categories, such as accuracy-related penalties under IRC Section 6662, fraud penalties under IRC Section 6663, and estimated tax penalties under IRC Section 6654, are not eligible for FTA. If a business owner faces a non-qualifying penalty, relief must be pursued through other channels such as a reasonable cause argument.

The Three-Year Clean Compliance Requirement

The core eligibility criterion for first-time penalty abatement is the taxpayer's compliance history over the preceding three tax years. Under IRM 20.1.1.3.6.1, the taxpayer must not have been assessed any significant penalties during the three tax years prior to the year in which the penalty was imposed. If a business owner received a failure-to-file penalty two years ago, that prior assessment would disqualify them from FTA for the current penalty, even if every other year was spotless.

In addition to the penalty-free history requirement, the taxpayer must have filed all currently required returns or have filed valid extensions for any returns not yet due. If you are a real estate investor operating through multiple LLCs and one of those entities has an unfiled return from a prior year, that gap in your filing record can block FTA eligibility across the board. The IRS also requires that any tax due has been paid, or that the taxpayer has entered into an approved payment arrangement, meaning that resolving the underlying tax liability is a prerequisite before penalty relief can be granted.

How to Request First-Time Penalty Abatement

There are two primary methods for requesting FTA: a phone call to the IRS or a written request. For many business owners, calling the IRS Practitioner Priority Service line is the fastest approach. A tax professional authorized through a valid Form 2848 (Power of Attorney) can call on the taxpayer's behalf, reference IRM 20.1.1.3.6.1, and request an account review. If the compliance history checks out, the penalty can often be abated during the call itself.

A written request may be more appropriate when the penalty amount is large or the facts are complex. The written approach involves sending a letter to the IRS service center that issued the penalty notice, clearly identifying the taxpayer, the tax period, the specific penalty being contested, and the basis for relief under IRM 20.1.1.3.6.1. Including a statement that the taxpayer has filed all required returns, has no significant penalties in the prior three years, and has paid or arranged to pay the underlying tax liability strengthens the request considerably. For business owners managing multiple entities, addressing each entity's compliance status in the letter can preempt questions the IRS examiner might raise.

Strategic Considerations for Business Owners and Real Estate Investors

One of the most important strategic decisions surrounding FTA involves timing. Because the relief is available only once every three years (the "clean" window resets after each use), business owners should think carefully about when to deploy it. If you have a small failure-to-pay penalty of a few hundred dollars and a clean compliance history, it may make more sense to simply pay that penalty and preserve your FTA eligibility for a potentially larger penalty in a future year. This is particularly relevant for real estate investors who manage multiple properties and entities, where the probability of incurring a larger penalty during portfolio expansion or restructuring is higher than average.

Another consideration involves the interaction between FTA and reasonable cause abatement. Under IRC Section 6651(a), a taxpayer can request penalty relief by demonstrating reasonable cause and not willful neglect. If a business owner qualifies for both, it is generally better to pursue reasonable cause first, since a successful reasonable cause argument does not consume your FTA eligibility. If FTA is used first, you lose that administrative remedy for the next three years regardless of whether reasonable cause might have also applied.

For S corporation and partnership owners, the failure-to-file penalty under IRC Section 6698 (partnerships) and IRC Section 6699 (S corporations) deserves special attention. These penalties are assessed per partner or shareholder per month, meaning a multi-member LLC taxed as a partnership that files two months late can face penalties that quickly reach five figures. While FTA can apply to these entity-level penalties, the compliance history review examines the entity's filing record, not the individual owners' records. Keeping entity filings current, even when the entity has minimal activity, is critical to preserving FTA eligibility.

When the IRS abates a penalty under FTA, associated interest is typically reduced or eliminated as well, since it was calculated on the penalty amount. Total savings from a successful FTA request often exceed the face value of the penalty alone.

Common Mistakes That Undermine FTA Requests

Several avoidable errors can derail an otherwise straightforward FTA request. Filing the request before all required returns are submitted is a frequent misstep, as the IRS will deny relief if any returns remain outstanding. Requesting FTA while a prior penalty from the look-back period is still on the account can also create confusion that delays the process. Business owners who operate through multiple entities sometimes overlook the fact that each entity has its own compliance history; a clean record for the individual does not guarantee eligibility for a penalty assessed against a separately filed LLC or corporation. Working with a qualified tax professional who can pull IRS transcripts and verify compliance status before submitting the request dramatically improves the odds of a successful outcome.

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This article is for informational purposes only and does not constitute legal or tax advice. Consult a qualified tax professional regarding your specific circumstances. AE Tax Advisors, 935 Lake Elmo Dr, Suite B, Billings, MT 59105. Phone: (631) 614-5762.