Introduction: Penalties under G.L. c. 62C, § 35A apply to certain underpayments of tax required to be shown on a return where a taxpayer (a) substantially understates a tax liability or (b) underpays taxes due to negligence or disregard of Massachusetts tax laws, including public written statements of the Commissioner. G.L. c. 62C, § 35A. See TIR 06-5 (April 13, 2006). The Department of Revenue (the Department) is issuing this Directive to address certain circumstances where the filing of an amended return may permit the taxpayer to avoid the imposition of a § 35A penalty. The Department also intends to issue future guidance concerning standards for determining when a taxpayer has "reasonable cause" for an underpayment of tax such that a § 35A penalty will not apply. [1] See G.L. c. 62C, § 35B.

Issue: Under what circumstances may a taxpayer correct an underpayment of the tax required to be shown on a return that is attributable to (1) negligence or disregard of Massachusetts tax laws or (2) a substantial understatement of tax, and therefore avoid the imposition of a § 35A penalty by filing an amended return?

Directive: A taxpayer that files an amended return to correct an underpayment reflected on the original return prior to contact by the Department regarding the taxes as reported on the taxpayer's original return may, depending on the facts, avoid the imposition of the § 35A penalty relating to an underpayment of tax provided that all of the following conditions are met:

  • The underpayment was not the result of a listed or other transaction as referenced in 830 CMR.62C.33.1(5)(k);

  • The taxpayer has complied with all applicable federal change reporting requirements and state or other jurisdiction change reporting requirements pursuant to G.L. c. 62C, §§ 30, 30A with respect to the tax item or items as reported on the amended return;

  • The taxpayer has not been audited by either the Internal Revenue Service or by the Department with respect to the same or a substantially similar issue on a current or prior year tax return;

  • The taxpayer's claim or conduct is not deemed egregious by the Commissioner; and

  • In the case of a substantial understatement, the issue is adequately disclosed in the Massachusetts equivalent of a "qualified amended return," as defined in Treas. Reg. §1-6664-2(c)(3) [2], and there is a reasonable basis for the tax treatment of the issue by the taxpayer.

Discussion: Section 35A applies to any "underpayment of tax required to be shown on a return" that is due to (1) negligence or disregard of the tax laws of the Commonwealth or public written statements issued by the Commissioner, or (2) any substantial understatement of liability for a tax required to be shown on a return. As noted in TIR 06-5, penalties under § 35A-35E of chapter 62C "were in substantial part derived from provisions of the federal Internal Revenue Code (Code) imposing like penalties with respect to federal returns, and the Department intends to apply and interpret the new penalties in a manner generally consistent with such provisions of the Code and the Treasury Regulations promulgated thereunder, to the extent that such federal law provides pertinent authority."

G.L. c. 62C, § 35A is substantially derived from Code § 6662. Pursuant to both § 35A and Code § 6662, the amount of any understatement of tax is reduced by that portion of the tax for which the taxpayer can demonstrate "substantial authority" for its position. G.L. c. 62C, § 35A(d); Code § 6662(d)(2)(B). Further, under both the Massachusetts and federal statutes, the understatement is reduced "if the relevant facts affecting the tax treatment of the item are adequately disclosed in the return or a statement attached to the return and there is a reasonable basis for the tax treatment of the item by the taxpayer." Id. [3]

The Treasury Regulation issued pursuant to Code § 6662 provides guidance as to what constitutes "adequate disclosure" pursuant to that section. Treas. Reg. § 1-6662-4(f). That regulation provides in pertinent part that "[d]isclosure is adequate with respect to an item…or a position on a return if the disclosure is made on a properly completed form attached to the return or to a qualified amended return…for the taxable year." Id.

The above federal standards are cited to provide context for the application of the analogous § 35A penalty. The Department may also impose the § 35A penalty in other situations that are state-specific such as where the taxpayer has not complied with the applicable federal change and/or state or other jurisdiction change reporting requirements set out in G.L. c. 62C, §§ 30, 30A with respect to the tax item or items as reported on an amended return. In addition, the Department may impose the penalty where a claimed deduction, exemption, or exclusion from income has been disallowed or proposed to be disallowed pursuant to audit and the taxpayer claims the same item of deduction, exemption, or exclusion on a subsequent return. Further, the Commissioner, in her discretion, may impose the § 35A penalty in circumstances where she deems that the taxpayer's conduct is egregious, regardless of whether an amended return has been filed prior to contact by the Department.

A penalty under G.L. c. 62C, § 35A will not be imposed with respect to any portion of an underpayment if it is shown there was reasonable cause for such portion and the taxpayer acted in good faith. G.L. c. 62C, § 35B(a). The existence of reasonable cause is a factual determination and, as noted in footnote 1, the standards set out in Administrative Procedure 633, do not apply to the administration of the G.L. c. 62C, § 35A penalties, including the determination as to "reasonable cause." For this reason, the Department intends to issue further guidance concerning the standards for determining when a taxpayer has reasonable cause for an underpayment of tax in the context of a § 35A penalty.

/s/Navjeet K. Bal
Navjeet K. Bal
Commissioner of Revenue

NKB:MTF:ds

May 16, 2011

DD 11-3



[1] The standards set forth in Administrative Procedure 633, Guidelines for the Waiver and Abatement of Penalties, do not apply to the penalties imposed under G.L. c. 62C, § 35A. AP 633 was issued before the adoption of G.L. c. 62C, § 35A and addresses reasonable cause for filing returns late or paying taxes late. Circumstances that may appropriately excuse late filing or payment of tax do not correspond to circumstances that may excuse underpayment of tax. For example, a taxpayer's sickness generally would not justify an underpayment of tax. Similarly, in many situations, reliance on a professional tax advisor will not excuse an underpayment attributable to negligence or disregard of the Commonwealth's tax laws or to a substantial understatement of tax liability.

[2] A qualified amended return within the meaning of Treas. Reg. §1-6664-2(c)(3) is a return that meets the federal timing requirements as set forth in such section (e.g., with respect to the requirement that the amended filing must be made prior to the taxpayer first being contacted), including specific rules that apply to "pass-through items" of a "pass-through entity." As noted, Massachusetts generally follows these federal rules.

[3] Electronic filers may utilize Schedule TDS (available in most corporate e-file software and personal income Webfile for Income application). See TIR 06-5, New Penalties under G.L. c. 62C, §§ 35A-35E (Revised) for more information.